Question

Andrea would like to organize SHO as either an LLC (taxed as a sole proprietorship) or a C corporation. In either form, the entity is expected to generate an 8 percent annual before-tax return on a $500,000 investment. Andrea’s marginal income tax rate is 37 percent and her tax rate on dividends and capital gains is 23.8 percent. Andrea will also pay a 3.8 percent net investment income tax on dividends and capital gains she recognizes. If Andrea organizes SHO as an LLC, Andrea will be required to pay an additional 2.9 percent for self-employment tax and an additional 0.9 percent for the additional Medicare tax. Further, she is eligible to claim the full deduction for qualified business income. Assume that SHO will pay out all of its after-tax earnings every year as a dividend if it is formed as a C corporation.

a. How much cash after taxes would Andrea receive from her investment in the first year if SHO is organized as either an LLC or a C corporation?

Answer 1

a)	Sl No.	Particulars	LLC	Calculation	C corporation	Calculation
	1	Investment	500,000		500,000
	2	Before tax return	40,000	8% of (1) = 500,000 x 8%	40,000	8% of (1) = 500,000 x 8%
	3	Entity level tax rate	0%		21%
	4	Entity-level tax	0		8,400	(2) x (3)
	5	Earnings after entity level tax	40,000	(2)-(4)	31,600	(2)-(4)
	6	QBI deduction	8,000	(5) x 20%	NA
	7	Deductionfor 50 percent of SE tax	536	(2) * 0.9235*0.029*50%	NA
	8	Net income taxable to owner	8,536	(5) + (6) + (7)	31,600	(5) - Distributed as divided
	9	Income tax paid by owner	3,158	(8) * 37%	7,521	(8) * 23.8%
	10	Self-employment tax	1,071	(2) * 0.9235*0.029	NA
	11	Additional Medicare tax/Net investment income tax	332	(2) * 0.9235*0.009	1,201	(8) * 0.038
	12	Owner-level tax	4,562	(9) + (10) + (11)	8,722	(9) + (11)
	13	After-tax cash flow	35,438	(2)- (12)	22,878	(8)- (12)
		After-tax cash flow
		LLC	$ 35,438
		C Corporation	$ 22,878