Practice Problem #1: After-Tax Comparison of Entity Types

Three individuals, each operating the same profitable business, choose different legal structures:

Taylor operates as a sole proprietor.

Jordan forms a C corporation, which pays Jordan a dividend.

Morgan forms an S corporation (single shareholder)*.

Each business earns $200,000 of net income (before any taxes, compensation, or owner distributions). Assume the following:

Each owner is in the 24% marginal federal income tax bracket.

Self-employment tax: 15.3% on 92.35% of SE income (Social Security limit not reached).

Dividend tax rate: 15% for Jordan (C corp shareholder).

Corporate tax rate: 21%.

QBI deduction: 20% applies to Taylor and Morgan (non-SSTB, under threshold).

No state income tax.

Each owner takes the entire after-tax amount as a distribution.

• *For this calculation, ignore the IRS requirement to pay S Corp owners a reasonable salary.

Required:

For each owner, compute the after-tax cash they receive personally.

Show each step of the calculation.

Which entity provides the most tax-efficient result?

What are the trade-offs in choosing between these structures?