Navigating Potential Changes to Corporate Tax Rates
With the expiration of the Tax Cuts and Jobs Act (TCJA) provisions looming in 2025, small business owners and tax practitioners who advise them are facing a significant dilemma: should they consider electing S corporation status in anticipation of a potential increase in the corporate income tax rate?
Recent discussions among House Republicans and Democrats suggest that a hike in the corporate tax rate may be on the table when Congress considers extending the TCJA tax cuts. Chair Jason Smith, R-Mo., of the House Ways and Means Committee, revealed that some well-known conservative House Republicans support such a hike. This revelation underscores the uncertainty surrounding the future tax landscape and the need for proactive planning.
As tax professionals, we must educate our small business clients about the potential implications of these changes and help them weigh the pros and cons of electing S corporation status. The TCJA set the corporate tax rate at 21 percent, down from the previous 35 percent. If the rate increases in 2025, C corporations may face a higher tax burden, making the S corporation election an attractive option for some small businesses.
However, the decision to elect S corporation status is not straightforward and requires careful consideration of each client's unique circumstances. S corporations offer pass-through taxation, meaning that business income is taxed at the individual level rather than the corporate level. This can be advantageous if individual tax rates remain lower than the corporate rate. Additionally, S corporations can provide flexibility in allocating income and losses among shareholders, which may be beneficial for some small businesses.
On the other hand, S corporations come with their own set of restrictions and requirements. These include limitations on the number and type of shareholders, the requirement to have only one class of stock, and the need to adhere to strict formalities in maintaining corporate records and holding shareholder meetings. Furthermore, S corporation shareholders are subject to self-employment taxes on their share of the company's income, which may not be desirable for all small business owners. S corporation distributions must also be equivalent to ownership percentages which isn’t always a good fit in certain circumstances.
Our role as advisors is to guide our clients through a thorough analysis of their specific situation, considering factors such as their current and projected income, business structure, growth plans, and long-term goals. We must help them understand the potential tax implications of electing S corporation status and weigh them against the benefits and drawbacks of remaining a C corporation or considering alternative business structures. Because these are elections are generally required to remain in effect for at least five years, the decision is not one to be taken lightly. An ill-informed decision can cost the taxpayer huge dollars.
Practitioners have the opportunity to emphasize the importance of ongoing tax planning and monitoring of legislative developments and for building strategic tax plans around anticipated changes. The uncertainty surrounding the potential increase in the corporate income tax rate presents both challenges and opportunities for small business clients. As tax practitioners, our expertise and guidance are invaluable in helping them navigate this complex landscape. By educating our clients, analyzing their unique circumstances, and developing tailored strategies, we can empower them to make informed decisions that align with their long-term goals and maximize their tax efficiency in the face of potential changes. But our practices must be set up to offer these types of advisory services in order to be most effective for our clients.
Consider registering for this month’s Future Forward sessions where automation of tax advisory services is among the list of free CPE courses being offered. Enhancing your advisory practice without adding significant hour to your workload is not only a key component to growing your firm but also for improved client satisfaction.
Christine Gervais
Christine Gervais is a licensed CPA, using her skills to help businesses grow and achieve their fullest potential. Christine has a Master’s degree in accounting from Southern New Hampshire University in addition to holding her CPA license for over a decade. Notably, Christine is a nationally recognized speaker providing education to other CPAs on how to best serve clients as well as instruction on a wide variety of topics for business owners on how to maximize success. Christine prides herself on the value she can bring to clients with her extensive tax knowledge and provides strategic, forward-thinking financial strategies to help clients grow. When not behind her desk, you can find Christine spending quality time with her daughter and stepson or tending to the family’s excessively loved farm animals.
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