Wow, that is a lot of great advise. Thanks to all who
responded, I know you must be busy this time of year.

I had already made an appointment with a CPA but I
wanted to be somewhat informed at the first meeting.

There seems to be a difference of opinions regarding the
filing of a Schedule C. Would it not be better to
file a C and pay SE tax rather than let all the corp
income flow through as dividends and pay no tax? Or
is that going to raise a red flag?

I'm not tring to dodge any taxes I just want the least
problems for 2002 and get it right for this year.

Thanks again!

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"Do B" <do20b[at]yahoo.com> wrote:

- quote -

You are in over your head, you need professional help - RUN,
do not walk to a local accountant that does pass through
entity work and write the checks necessary to get
professional help. You have several problems:

1 - you do NOT get to decide whether a worker is an employee
or contractor. If you misclassify a worker you could be
required to pay the tax that you should have withheld and
then settle up privately with the worker. If you
intentionally ignore the rule and do what YOU WANT to, you
could also be subject to a penalty equal to 100% of the
trust fund portion of the tax. I've seen strong companies
put into bankruptcy over this, be very, VERY careful.

2 - assuming you want to argue that you didn't know any
better regarding the payroll rules, you will lose the
congressional "safe harbor" protection if you fail to issue
the 1099s. The theory here is that if you really believed
they were contractors you should have abided by the
contractor rules. Doing so may get you out of some of the
penalties, but not the tax or the interest due.

3 - This is true regading you as well as your employees. In
the past, I have taken money paid to a performing
stockholder that should have been salary and put it on
Schedule C to make sure that payroll taxes got paid. This
will work for one year or so to help protect YOU in the
event you are audited - you could say that you learned about
the performing stockholder rules after the fact but couldn't
correct it any other way. It is important to note however,
that this will only work to help defend you if you have
corrected the reporting BEFORE they catch you.

4 - the same amount of taxes are NOT paid doing what you
propose. Schedule C net income is not subject to FUTA tax
or to most state unemployment taxes. Also, depending on your
state you may have worker's compensation issues that you
have not addressed.

5 - How to divide what you take between salary and
distribution is one of the most discussed areas of S Corp
taxation. The Tax Inspector General in his audit of the
Small Business Section found that the average S corp salary
was $5,000 while the average distrubtion was in the HUNDREDS
OF THOUSANDS OF DOLLARS and the auditors and managers did
not raise this as an issue. There is no quantative formula
that will give you definative answer, you have to apply the
reasonableness test - what would you have to pay someone to
do what you do for the company? That will tell you what
your salary should be. You can likely discount this a bit,
but be careful.

6 - Remember, when you do something for tax purposes there
also has to be a legitimate business purpose for the
transaction, you CANNOT just do something because it saves
you tax dollars. This usually isn't a hard argument to make
especially if you are convering an entity with no liability
limitation to one that offers the owner some liability
protection. However, you do need to find a way to justify
reducing your payroll taxable income when you convert. For
example, if you were a Schedule C for the last 20 years and
have been posting profits of $200K for the last 15 years -
and been calculating and paying SE tax on that amount - you
need to find a reason to justify a salary of less than $200K
when you convert to an S corp. I know this doesn't come up
to much during audit, but when it does it can be a real
killer. You should at least try to come up with a reason
that is believeable.

7 - Yes, salary really is necessary.

Again, you need professional help. Please find a local EA
or tax oriented CPA soon.

Good luck,
Gene E. Utterback, EA

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"Do B" <do20b[at]yahoo.com> wrote:

- quote -

Here's a real short answer: As an officer of the
corporation, you are, by definition, an employee. To do
anything other than treat yourself as one is asking for
trouble.

Don Rosenberg, EA

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I'm filing a 1120S for a new Sub-S for the first time this
year for the 2002 tax year. I have of course put this off
until the last possible moment.

Prior to 2002 I filed a sched C with my 1040. The business
has two employee's besides myself that are treated and paid
as contractors. I did not file any 1099s nor withhold any
taxes. I did estimate and pay SE taxes as I have under
schedule C in prior tax years.

I know the proper thing to do is to withhold payroll taxes
and file a W2 for myself for the portion that I want as
salary. However this first year my plan was to continue as a
contractor and pay myself 40% salary / 60% distributions and
file a sched C with my 1040 for the salary portion. The
other 60% portion would be listed as a distribution.

Assuming the above is all going to work, here are my questions:

Do I report all my expenses in the 1120S or should I move
some of them to the Sched C?

I do not want to set off any red-flags with the
salary/distribution ratio. Is that too agressive? One CPA
say's I've discussed this with says 30-35% is the iffy area.

Is the contractor portion reported as officer compensation?

I've kept the same structure for 2003, I assume I need to
start withholding taxes and giving myself a W2. Is that
really required? It appears the IRS gets the same taxes
regardless.

Any thoughts?

Thanks for any insight you guys can give me.

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