Professional Corporation Tax Advantages

By Ari Mushell, J.D.

Professional Corporation Tax Advantages

By Ari Mushell, J.D.

Suppose a group of architects, engineers, accountants, or other professionals wants to incorporate a practice. One option is to structure the practice as a professional corporation. Professional corporations enjoy certain tax advantages in comparison to other business entities.

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Professional Corporation vs. S Corporation

At first glance, an S corporation seems to be tax advantageous. It's a pass-through entity, while professional corporations are not. When an S corporation profits, the profits are not taxed at the corporate level and instead pass through to shareholders, who pay taxes at the individual level. This tax structure avoids double taxation. A professional corporation, in contrast, is not a pass-through business and is therefore subject to double taxation.

This is not always advantageous. The concept of pass-through taxation is that shareholders, for tax purposes, are one with the company. As a result, shareholders must absorb both profits and losses from an S corporation. By contrast, a professional corporation, as a separate taxable entity from its shareholders, can pass profits to its shareholders while retaining losses.

Fringe Benefit Deductions

While the Internal Revenue Service (IRS) allows the deduction of certain business expenses, it does not allow fringe benefit deductions for sole proprietorships, partnerships, and limited liability companies not taxed as C corporations. Professional corporations, however, can deduct fringe business expenses to lower their tax burdens.

The following are a few deductible fringe benefits:

  • Disability insurance
  • Health insurance
  • Childcare assistance
  • Parking expenses
  • Commuting expenses
  • Educational assistance

Professional corporations that contribute to these benefits for employees can deduct these expenses, and the employees receiving the benefits need not pay taxes on these perks.

Accounting Methods

In general, corporations must use the accrual method of accounting. That is to say, a corporation is taxed when it submits an invoice to a customer even though it does not receive payment until a later time. To illustrate: Suppose a wholesale toy dealer bills its customer in November 2017 and receives payment in January 2018. The corporation has tax liability for 2017, when the amount owed accrued, even though it did not receive actual payment until 2018.

Professional corporations, on the other hand, can use the cash method to account for tax liability. Suppose a medical practice organized as a professional corporation bills a patient's insurance company. The practice likely will not obtain payment for the medical services performed until several months later. By using the cash method, the professional corporation only pays tax when it receives payment for services rendered.

Flat Rate Taxation

The IRS used to levy a graduated tax rate against corporations. As a corporation earned more, its tax rate increased. Corporations that earned significant amounts might find themselves in a very high tax bracket. In contrast, the IRS levied a flat rate of 35 percent on professional corporation earnings. Thus, a high-earning medical practice might have garnered better tax treatment when organized as a professional corporation instead of another corporate form. This changed, however, when Congress passed the Tax Cut and Jobs Act in December 2017, thereby providing all corporations with a 21 percent flat tax. As such, this advantage no longer applies.

Those in professional services who incorporate as a professional corporation have certain tax advantages. Advantages include the retaining of losses by the professional corporation, fringe benefit deductions, and use of cash accounting method.

This portion of the site is for informational purposes only. The content is not legal advice. The statements and opinions are the expression of author, not LegalZoom, and have not been evaluated by LegalZoom for accuracy, completeness, or changes in the law.

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