S corporation question

Sole member of SMLLC consults in the big pharma space. No employees no capital no inventory. He earns all the income and has minimal expenses (most expenses are reimbursed).

Would it be unwise to elect to treat the SMLLC as an S corporation in order to save on Medicare taxes? He nets $500K, so he would have to at least take a salary that would exceed the Social Security limit. Seems I have read that in a situation like this where there are no employees or capital or inventory, it would be hard to NOT treat all of the profit as salary.

Any comments or suggestion would be appreciated.

He nets $500K, so he would have to at least take a salary that would exceed the Social Security limit. Seems I have read that in a situation like this where there are no employees or capital or inventory, it would be hard to NOT treat all of the profit as salary.

Why x2? Should his W-2 compensation be reasonable, that is, what he would pay a third party to come on as an employee and replace him, and nothing more?

Might be advantageous, but you really need to determine reasonable comp and run a projection. Looks like a SSTB and he's above the phase out so you can remove QBI loss on salary from the cost-benefit.

That said there are qualitative aspects as well. Is your client okay with the additional administrative overhead of a corp for tax?

Is the potential medicare tax savings worth the extra filings; Form 940, Form 941, CA 100S, Fed 1120S, etc?

The hard part may be determining what reasonable compensation really is. It sounds as if your client is in an unusual line of work. There may not be any salaries to use as a basis.

If big pharma pays the guy XXX for his services, XXX appears to be reasonable comp for thosw services.

If big pharma pays the guy XXX for his services, XXX appears to be reasonable comp for thosw services.

So in a nutshell, your take is: whatever an independent contractor gets paid equals reasonable comp?

On a website like salary dot com, you can search for reasonable compensation for someone in their area. What would his title be if he were an employee? Does big Pharma employ any employees like your client? There's a court case which I don't have handy where the auditor uses this method to come up with an amount for reasonable compensation.

https://rcreports.com/ takes the guesswork out of it.

Don’t forget to include benefits (health insurance, Solo K or SEP, other fringes) as part of his compensation package.

I wouldn’t pay someone 100% of the profits of my company to generate the sales; there’d be no profit left. But I get it, he’s the driver of all the revenue. Give RC Reports a try, charge the client a fee to calculate the reasonable comp to recoup the cost of the software and go forward.

If big pharma pays the guy XXX for his services, XXX appears to be reasonable comp for those services.

Reasonable Comp isn’t a concept we apply in the sole-proprietorship area. But to play along, if big pharma pays the “guy” (a sole proprietor) $X, then there is no way for the guy to report anything other than $X.

Now, if guy forms an S-corporation and big pharma pays the S-corporation, the dynamic has changed. We now have a corporation that might have a valuable asset – we have a client/client list and either a contract with big pharma or some less formal “relationship.” While these assets don’t show up on the S’s Balance Sheet, they are assets nonetheless. Somebody might be willing to pay the corporation for those assets in an asset purchase, for example. A purchaser would do so because the purchaser expects those assets (i.e. the investment) to generate a return. If S-corp holds those assets, there is no reason the shareholders shouldn’t be entitled to a return on those (intangible) assets all the same. This is so even if the shareholder invested $0 in the corporation. If a sole shareholder’s service-based S-corporation is really worth $1m, that shareholder has $1m of his personal net worth tied up in the S-corp. That is a fact.

So in a nutshell, your take is: whatever an independent contractor gets paid equals reasonable comp?

That seems to be his take, and the conventional wisdom, but it ain’t right because it makes no sense. It ignores the fact that corporations have intrinsic asset value that create an investment return

I was suggesting that the amount the guy gets paid from big pharma is a good starting point.