What are the tax differences between S corps and partnerships for distributions?

But what about guaranteed payments in a partnership? Aren't those treated differently than regular distributions? And doesn't an LLC taxed as an S-corp still have some advantages over a straight S-corp for liability purposes?

Guaranteed payments are indeed different from regular distributions in a partnership. They're more like salary - they're deductible by the partnership and taxable to the recipient as ordinary income, plus they're subject to self-employment tax. An LLC taxed as an S-corp can offer the liability protection of an LLC combined with the tax benefits of an S-corp. This gives you both worlds - protection from personal liability for business debts while avoiding self-employment tax on distributions. However, there are additional compliance requirements like reasonable compensation rules that you need to follow carefully.

How complicated was the process of converting from a partnership to an S-corp? And does taxr.ai actually help with the conversion process or just the analysis part?

I've heard about the S-corp savings but always wondered if the extra paperwork and accounting fees eat up most of the tax savings. Did you find the additional compliance requirements to be worth the hassle?

The conversion process wasn't too bad - you'll need to file Form 8832 to elect to be treated as a corporation and then Form 2553 to make the S election. Taxr.ai doesn't handle the actual filing but they provided a detailed report that made the decision crystal clear for my situation and even showed me what a "reasonable salary" would look like for my industry. The extra paperwork is definitely something to consider. For me, the compliance costs went up about $1,800 per year for payroll processing and the more complex tax return, but I'm still netting over $10,000 in savings. It's worth running your specific numbers to see if it makes sense for your business size.

Wait, this seems too good to be true. How does this actually work? Do they just call the IRS for you or what? And did you actually get useful information from the IRS agent?

Yeah right. The IRS never gives clear answers about anything tax-related in my experience. They just tell you to consult a tax professional. I seriously doubt they gave you detailed advice about entity selection.

It's pretty straightforward - they have a system that dials and waits on hold for you. When an actual agent picks up, you get a call and are connected directly to them. You take it from there. The key is knowing what to ask. I specifically asked about tax treatment of distributions from different entity types, not for advice on which to choose. The agent explained that partnership distributions generally don't avoid self-employment tax while S-corp distributions (beyond reasonable compensation) do. This confirmed what I'd read elsewhere but it was good to hear it directly from the IRS.

Could you explain that with a simple example? Not sure I'm following how the liability part impacts distributions.

Sure. Let's say you and a partner each contribute $50,000 to start a business and then the partnership takes out a $200,000 loan. In a partnership, your basis would be $150,000 ($50,000 contribution plus $100,000 of the debt). This means you could receive distributions up to $150,000 tax-free. In an S-corp with the same scenario, your basis would only be $50,000 (your contribution), so distributions beyond that would be taxable. This can be a significant difference depending on your business's debt structure and distribution plans.

This is a good point. We have a partnership where one partner contributes more time but less money, so we allocate profits disproportionately to ownership. Couldn't do that with an S-corp.