in this video I'm going to explain the tax differences between so proprietorships llc's multi-member llc's Partnerships as corporations and even C corporations and I'll be using this visualization to teach you what type of taxes you have to pay as well as how much you have to pay depending on which tax classification you elect so when you get to this portion of the video you'll learn how much Social Security taxes Medicare taxes federal income tax and state income tax you pay if your business earned a profit of1 $1,000 in each of the four tax classifications so as you can see we have a lot to cover so let's jump right into the video but before we do so let me quickly introduce myself my name is na'vi marage I'm a CPA who teaches entrepreneurs how to save thousands of dollars in taxes I do that for free here on social media but I also teach it in a much more comprehensive and easy to understand matter through a course the course is designed to take someone who knows nothing about business taxes and convert them into a tax-savvy entrepreneur who learns and implements tax strategies that can save them thousands of dollars you can find more details about the course on my website which is Navi Morad cpa.com so before you panic let me just say that you are going to understand this by the time you finish watching this video so don't freak out by all the colors and the columns and the numbers here okay remember a moment ago I shared with you that there are four main tax classifications well that's what these four columns represent here we have solle proprietorship S corporation partnership and C corporation so what I'm going to do is show you what taxes you have to pay when your business is structured like these four tax classifications so in our example here I'm going to show you you know if you earn $100,000 in profit in your business um I'm going to show you what taxes you might have to pay as an individual and what taxes your business might have to pay now I'm going to go into depth uh when I'm explaining the Sol proprietorship and then I'll speed it up just a bit once you have the terminology down and you understand some of the basic concepts all right so let me start uh walking you through this let me give you a little bit of layout of the land first again there's are the columns across here we have sole proprietorship and remember I said if you form a single member LLC you're taxed as a sole proprietorship then we have S corporation if you've made the es Corp election partnership and again you either form a partnership just by you know meeting up with someone and say hey do you want to get into business together they say yes okay you formed a general partnership or you can f you can um end up filing a partnership tax return if you did it on purpose meaning you formed a multi-member LLC and they're two members and like we said by default it's taxed as a partnership and then the C corporation you went to your state you filed a C corporation and so you're going to get taxed this way okay so let's go one by one sole proprietorship what I'm saying here is that your business revenue is $125,000 what that means is let's say you perform a service or you sell products um all the customers for the entire year they paid you $125,000 so your business sales was $225,000 then you had $25,000 in business expenses this this could be advertising and marketing this could be uh legal fees this could be social media ads okay your business expenses were 25,000 so you have a business profit of $100,000 okay now if your tax is a sole proprietor what taxes do you have to pay well you typically have to pay social security and Medicare taxes when you're a sole proprietor for whatever reason the IRS kind of does something a little bit silly and they call that self-employment taxes okay so those are synonymous terms Social Security and Medicare tax and self-employment tax are kind of synonymous in the sort of sole proprietorship tax world so how much these types of taxes you have to pay well $100,000 times 6.2% because you are the employee and when you're sold proprietorship you are the employer okay so it's really 100,000 time 12.4% equals the $122,400 right that's kind of easy math you can do that in your head um uh likewise with the Medicare you have to pay the Medicare tax for the employee and the employer because you are both as a solle proprietorship and so 100,000 time 2.9% is $2,900 so if you add these two together you're paying about $15,300 or 15.3% in Social Security and Medicare taxes okay what other taxes do you have to pay you don't have to pay um this C corporation tax that's strictly for C corporations you will have to pay federal income tax though right now let me explain what's going on here with the federal income tax in the US we have a progressive tax system okay so what that means is not all all of your income is taxed at let's say 25% how it works is the first sort of $10,000 of income you earn is taxed at 10% then the next set of dollars is taxed at 12% then 22 24 32 37 I believe those are the numbers but there's various tax brackets and as you earn more money then that additional money is taxed at the higher tax bracket um just because you jump into a higher tax bracket doesn't mean that all of the previous dollars earned are taxed at that higher bracket okay a lot of people get confused by that it's a progressive system as you make more money you go into the additional uh tax bracket so what we're saying here is if you earn $100,000 in profit as a sole proprietorship what would be happening behind the scenes is you would get the standard deduction you'd also be getting something called the qualified business income deduction I'll touch on that a little bit later but basically even after um calculating for all those things you're going to end up paying $10,000 uh $1,064 in federal income tax now I'm assuming you're a single taxpayer so you're not filing jointly if you were married filing jointly it would be a little bit less okay you don't have any capital gains to tax to pay as a sole proprietor and so what about your state income tax now I'm going to you know sort of digress a little bit and talk about the state income tax you may be in a state like Florida or Tennessee for example um or Texas that doesn't have a state income tax okay or you might be in a state that has a fixed income tax so States like I think Alabama for example um might just say hey whatever your taxable income is we're going to tax that at 5% okay so all of your tax or all of your income is taxed at 5% so that's what I did I just made it $5,000 across the board here to keep things even um so this is showing you like a fixed income tax of 5% your state could have a progressive tax okay just like the FED has so a state like California for example they might um give you a tax rate of like 3% then 5 7 10 12% I think it goes all the way up to 13% marginal tax bracket but again for simplistic purposes just to simplify this explanation we're going to go fixed um at 5% so your total taxes is 30, 364 that's the 153 plus the 10,064 plus the 5,000 = 30, 364 okay that's the sole proprietorship I'm going to go a little bit faster now that you have that foundational understanding let's look at the S corporation so the same thing happened at the S corporation you had 125,000 in Revenue $225,000 expenses $100,000 of profit but look what starts to differ here with the S corporation the reason why I mentioned earlier that this is a strategy to help save money in Social Security and Medicare taxes is as follows you're actually going to split this $100,000 of profit into two distinct buckets one bucket is your reasonable compensation okay so you have to pay yourself a reasonable compensation based on the services that you performed for your S corporation so I'm just picking this number arbitrarily it's $40,000 and so what taxes or what Social Security and Medicare taxes do you have to pay well you have to pay 40,000 times 6.2% as the employee that's 2,480 I'm going to say your name is John here again 2480 and what Medicare tax you have to pay 40,000 * 1.45 is $580 now John's S corporation or your S corporation whatever you named it also has to pay social security and Medicare tax so the 40 Grand times the 6.2 uh in Social Security for the employer side is 2480 and the Medicare tax is $580 but if you add all four of this um amounts together you get $6,150 so you can see here how you have a potential tax savings between Social Security and Medicare of roughly $9,000 right 9,180 that's the 153 minus the 6,120 okay let's keep going down federal income tax is a little bit higher um I don't want to really go into the weeds here of why that is but basically it has to do with the qualified business income deduction and so it's a little bit less when you're next Corporation and so what's happening is um you're paying a little bit more federal income tax state income tax we talked about that already I'm just going to keep it you know even across all of the comparison so $5,000 is how much you pay in state income tax so what's the total tax here $ 22,7 46 so you can see how this saves you you know between $7 and $8,000 in taxes and the majority of that came from the Social Security and Medicare tax okay so that's the S corporation and that's why most entrepreneurs have their operational business tax as an S corporation let's look at the partnership okay again multi-member LLC you got two partners what I did here is I increased the dollar amounts I said let's say your revenue revenue is 250,000 your expenses were 50,000 so you're left with $200,000 in profit the reason why I did this why I increased the numbers that is is we're going to have two partners right you're going to have John as partner one and then you're going to have a second partner so I wanted to have an Apples to Apples comparison so Jon's portion of this 200,000 assuming they're 50% partners is going to have $100,000 of income now how much or I should say taxable income so how much of this is going to be subject to Social Security and Medicare tax well if you look closely this is exactly like the sole proprietorship it's 100,000 times the 12.4% because you're paying the employee and employer portion and it's 100,000 times a 2.9% because you're paying the employee and employer portion of Medicare tax so the total total um Social Security and Medicare tax here remember we said that's called self-employment taxes when you're a partnership or a Sol proprietorship is 15,300 so um let's keep going down this uh path of the partnership federal income tax I'm not going to explain it again because if you notice it's exactly what it was with the sole proprietorship $10,600 state income tax same thing $5,000 just like it was over here and the total taxes is $3,364 so you can kind of see that the partnership is really like having to Two Sole Proprietors come together to do business with uh together right so that's why it's the same tax that you pay all right it's just that you're forming a partnership um and you have to file a partnership tax return instead of that being on Schedule C of your individual tax return okay so that's the partnership last one C corporation okay um numbers are going back to what they were before 125,000 in Revenue 25,000 in expenses uh $100,000 in profit well with the C corporation you got to pay yourself a reasonable compensation for any work that you sort of performed yourself in the business so what Social Security Medicare taxes you have to pay it's exactly like the escorp was you know you pay 12.4% but that's broken up between 6.2 for John and 6.2 for John C corporation and then for Medicare it's 1.45% for John and 1.45% for John's S corporation okay so that 6,000 $120 which like you see is just like the S corporation so when you look at this at first glance you're like okay na'vi well this entity can save me the same amount of Social Security and Medicare taxes um that the S corporation does and you'd be right but here's where things start to differ a C corporation is not a pass through tax entity what that means is the C corporation itself has to pay an income tax with the sole proprietorship the S corporation and the partnership the entity itself does not pay any income tax the entities did pay um Social Security and Medicare tax over here okay right but um the C corporation is going to get a tax on the profit that it had so $60,000 of profit is how much the C corporation uh remain because it paid of the 100,000 it paid 40 out in the form of a salary so it had $60,000 in profit left and as of 2023 um the tax rate for C corporation is a flat 21% so 60,000 * 21% is $12,600 okay again the C corporation has to pay that all right let's look at the other types of taxes now you're looking at this number and you're like wow this is really low the federal income tax so the C corporation is paying I should say John is paying a lot less federal income tax um because the income tax is only on the 40,000 that he took as a salary but what happens is if if John wants to take out the $60,000 from the C corporation the C corporation would pay him a dividend okay and so this is what's referred to as double taxation the C corporation paid $12,600 in taxes already and then John the shareholder is going to have to pay um capital gains taxes on the dividend paid to him and so we're going to say that John decided to um pay the dividend of 60,000 and so he has to pay capital gains tax now the math is a little bit weird here on the left you can see that federal capital gains tax rates are either 0% 15% or 20% those are the various tax brackets and I'll show you that visually here in a second but what's happening here in this particular situation is that um some of the capital gains is actually not getting capital gains tax rates because John made such little money um and some of it's going to be taxed at 15% so I'm sorry that this math isn't super easy it's not just 60,000 times 15% it's a blended rate between some of it was Zero some of it was 15 so the capital gains taxes are 6,230 state income tax again is $5,000 I'm just keeping that uniform across all four and so the total taxes is $ 32,8 70 which is even more tax than you would pay as a sole proprietorship all right this is why the C corporation in my opinion is not best when you're operating a small business like this okay C corporations are mainly for very large businesses like your Amazon of the worlds your apples of the world okay they have many many many shareholders they're try to raise Capital they do a lot of unique things and so the C corporation structure makes sense for them now if you're a little bit tax-savvy and you maybe know this um the $60,000 technically didn't have to be paid in a dividend this year okay so even if that was the case though you'd still have to pay the C Corp would still have to pay $12,600 in C Corp income tax you just might you know delay paying the capital gains tax of $623 but if you subtract $6,000 from this number you still get about $26,000 or so which is still higher than the S corporation right so it's not really a strategy that um most people think it is it's not not really the best strategy out there especially for your small business owner okay so in a moment here I'm going to show you sort of a tool that you can use to recreate all these numbers for yourself um because your numbers are likely going to be different um so before I do that though let me just read this note it says here remember this is all just an estimate for the sole proprietor and partnership examples if you're really wanted to dial in the number instead of doing 15.3% here you would multiply this by 14% so this would probably be more like 14,000 and these would be more like 14,000 the reason for that is you do get what's called an adjustment to gross income I don't want to go into all those weeds here but you would get um sort of like a tax deduction for half of the Social Security and Medicare tax you would have to pay and as a result the way the math kind of works out is that you know you'd pay around $14,000 here again for the sole proprietorship and the the partners in the partnership let me show you some resources okay so I just wanted to show you this real quick this tool is from the maror prize if you're watching on YouTube I'm going to put this in the description below you can use these calculators to input what um what your numbers are and calculate how much tax you might have to owe so you can kind of just see these were the examples for the sole proprietorship the S corporation partnership and C corporation so that's where I got these numbers from pretty good calculator admittedly there are a lot of different fields um that you can input so be careful of where you're putting the fields in but if you follow my example I think you'll do just fine also I'm going to put these resources down below uh State um income tax rates uh I got it from the tax Foundation link will be down below and here's that capital gain tax rate where I was kind of saying it verbally depending on how much uh income you earn and your filing status depend will dictate how much much capital gains tax rates are for you okay so 0% 15% or 20% now as I mentioned earlier I'm just touching on the surface here about some of these things if you're a little confused that's totally okay and normal if it's your first time you're seeing some of this stuff you may need to watch this video again maybe more than once so of of course though you know in my course I have more time with you and I make sure you understand all these pieces of the puzzle and make it much easier for you obviously I'm just teaching you on this one topic today but in the course I'm teaching you all different Tax Strategies like how to make the S corporation strategy even more powerful by incorporating health insurance premiums and health savings accounts how to deduct your home office your cell phone your internet hire your minor children establish retirement accounts as a business owner you can actually contribute over $60,000 in a Roth account that's after tax money for your retirement when you're a business owner okay so have a look at the course if you want to learn how all that stuff works but before I let you go please don't forget let me know in the comments below what questions you have I'll do my best to answer them as they come in if you learn something give this video a like and maybe even share it with a fellow entrepreneur and with that said I'll see you in the next video or in the [Music] course