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From Inc. to LLC: Should your firm change its entity type?

Most businesses select their entity type at their founding and rarely think twice about their choice. But over time, companies change. Their entity type may need to change, too.

For professional services firms, operating under the right entity type is key to tax planning—and could even help improve operations and profitability.

The good news: There are a number of entity types to choose from. Here’s a list, along with a “quick take” of key advantages and disadvantages of each:

C Corporations
Quick take: One of the main advantages of a C corporation is that it’s the simplest entity type for both owners and the firm. What’s more, it creates minimal complexity for owners’ personal taxes and may even provide some fringe tax benefits. Double taxation is often mentioned as an issue with C corporations, but it’s not usually problem for professional services firms.

S Corporations
Quick take: Structuring your firm as an S corporation could lead to potential tax savings in terms of Social Security and Medicare taxes. However, this benefit is not as tax-advantageous for professional services firms as it is for other businesses.

Limited Liability Companies (LLC), Professional Limited Liability Companies (PLLC), Limited Liability Partnerships (LLP), and Professional Limited Liability Partnerships (PLLP)
Quick take: These are the most flexible—yet most complex—entity types for both owners and the firm. Under these structures, income allocation to partners is very flexible, but personal income tax returns and tax planning can be quite complex.

Sole Proprietorships
Quick take: This entity type is relevant for single-owner firms only. It’s important to note that a sole proprietorship provides a lesser degree of legal liability protection.

Could changing your firm’s entity type improve flexibility and simplicity for income taxes and/or operations? Ask your tax professional to review your firm’s entity type and see if it’s appropriate for where you are today.

Doug McDonald, CPA, is AEM’s Professional Services Industry Leader and a seasoned recreational pilot. When he’s not soaring through the skies, he’s helping his clients’ businesses soar to new heights. You can reach Doug at 952.939.3207 or at douglas.mcdonald@aemcpas.com.

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