Office Hours: All Things S Corps for Therapists with Andrew Riesen

Andrew Riesen [00:00:00]:

I have talked a lot about this, but this concept that forming an S corporation is really complicated. It's really expensive. Yes, there are steps to forming an S corporation, but you can do it and there are a lot of people that have done it before. There are a lot of great resources out there on how to do it. It does take time, but in the same way that you were able to start your practice, taken all of this clinical work, learn how to manage the financial workload, you are more than capable of learning what it means to be an S corporation owner.

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Michael Fulwiler [00:00:35]:

This is Heard Business School, where we sit down with private practice owners and industry experts to learn about the business of therapy together. I'm your host, Michael Fulwiler. Mastering the intricacies of tax designations isn't just about numbers. It's about strategically shaping the future of your therapy business. Returning as a guest on this Office Hours episode of Heard Business School is Andrew Riesen, Co-founder and CEO of Heard. As an accomplished accountant and entrepreneur, his deep understanding of tax law and regulations specifically around s corporations makes him an invaluable resource for those looking to optimize the financial health of their therapy practices. Today we're breaking down the nuts and bolts of s corporations, a popular but often misunderstood tax designation. Andrew walks us through the process of electing S corp status, highlighting both the potential tax savings and the administrative responsibilities it entails.

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Michael Fulwiler [00:01:33]:

He guides us through who should consider making the election, the financial thresholds to keep in mind and some common misconceptions therapists have about s corps. Let's jump into my conversation with Andrew Rieson. Enjoy. Andrew Risan, welcome back to Office Hours.

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Andrew Riesen [00:01:50]:

Thank you for having me back to Office Hours, Mike. It feels like home.

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Michael Fulwiler [00:01:53]:

You're our first recurring guest, which is exciting. Last time we talked about quarterly taxes, and today we're going to be talking about the sexiest topic in accounting, which is s corporations.

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Andrew Riesen [00:02:07]:

You're stealing my phrase, Michael. You know, I love to say that.

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Michael Fulwiler [00:02:10]:

I don't know what that says about accountants, but it is the sexiest topic. Let's start with what is an S corporation?

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Andrew Riesen [00:02:18]:

Yes. So an S corporation is very common misnomer, not a business entity. It is an election that you make with the IR's for how you want your business entity to be taxed. And so when you go to the IR's after you have formed a business entity, let's say an LLC or a PLLC, and you say, hey, I want to reap the benefits of being taxed as an S corporation, meaning being taxed as a pass through entity and saving money on taxes, which we'll talk more about. Then you go to the IR's, you file a form 2553. The IR's says, hey, great, that sounds good. This is the date that you're going to be taxed to this. It could be the first of this year, or if you formed a business entity throughout the year, it could be mid year, but you have to receive that election qualification.

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Andrew Riesen [00:03:12]:

Or what would be form CP 261 from the IR's in order to denote whether or not you have become an S corp. But again, an IR's tax designation, not a business entity. They just like to make it very, very confusing and put corporation at the end.

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Michael Fulwiler [00:03:30]:

Such a great point. So when you form an LLC, a PLLC, a professional corporation that is a legal entity at the state level, you elect to be taxed as an S corporation with the IR's at the federal level. So glad that we clarified that right here at the start. Why would a therapist elect to be taxed as an S corporation? What are the benefits of doing so?

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Andrew Riesen [00:03:56]:

There are a lot of benefits to electing to be taxed as an S corporation. There are also administrative burdens. There are also additional costs. And so I want to be very clear. There's a lot of content out there, whether it's on TikTok or whether it's other companies that are promoting, hey, come here, become an S corp. You're going to save so much money if you make X amount of money. But a lot of what people don't know is that, oh, wow, I'm going to have to take on a lot of additional administrative burden. I'm going to have to take on accounting in a new way.

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Andrew Riesen [00:04:26]:

I'm going to have to file a separate tax return. I have to run payroll. Before we jump into why it's advantageous, I also want to be clear that there are downsides to becoming an S corp and there's a marginal line of which it makes sense to become an S corp. And so we'll talk through that. And I know for the folks that might be watching this on YouTube after the fact, Michael has a great infographic that he is very proud of that he will share with everybody.

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Michael Fulwiler [00:04:51]:

Share that any chance I can get.

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Andrew Riesen [00:04:53]:

Yeah, exactly. But for an S corporation, some of the benefits are that you are a pass through tax entity. And so I use this concept of pass through. You're probably like, WTF, Andrew? What does pass through? You're just using buzzwords. That's why you get paid is because accountants make buzzwords. But the reality is that when you form an LLC or a PLLC, or you're just operating as a sole proprietor, you have this thing called self employment tax. And if you're a therapist listening to this call, and you've gotten to the end of your first tax year as a private practice owner, what you've probably learned is, holy shit, I paid a lot of money in taxes, and a lot of that in taxes came from that self employment tax, because as a sole proprietor, an LLC, or a PLC, you're treated as what is called a disregarded entity in the eyes of the IR's, which means that all of that tax that you're responsible for paying, the burden falls on you as the employer, and there's no breaks. The reason that folks will form an S corporation is that as an S corporation, there are pass through benefits.

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Andrew Riesen [00:05:59]:

And so what that means is that you are now the owner of the business, and also are paying yourself as an employee of the business. And so, as the owner of the business, you take pass through distributions from the profit that is left over. You still pay taxes. They call them tax free dividends, but that is B's, and I hate that term. But for that income or that profit that is passed through back to you, you only pay federal. And if your state has income tax, state income tax on that, and so you're saving, quote, unquote, 15.3% in self employment tax. And Mike will walk through an example of what that could more tactically look like, especially when you factor in all the costs. But you are responsible as the employee of the business for setting up a reasonable salary.

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Andrew Riesen [00:06:46]:

And so when you set up a reasonable salary, when you set up payroll, you pay yourself through payroll. You have payroll taxes. Think about payroll taxes and self employment taxes very synonymously. You have Fica and Fuda. So Social Security, Medicare, unemployment taxes, all of the different types of taxes that you might be taxed on as an employee that has a w two. And so as the employer and the employee, you're responsible for covering the employer and employee side taxes. But that 15.3% that you're responsible for covering is only against that reasonable salary. And so, Michael, this is a tee up to the income breakout in equation here, if you want to walk them through it.

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Michael Fulwiler [00:07:27]:

Absolutely. So let's walk through an example of what this could actually look like, because it's helpful to see, see real numbers, and then we can talk through when it makes sense to start to think about electing to be taxed as an S corporation, as a therapist, so if we look at 80k in annual profit for an S corporation compared to a sole proprietor, let's look at how much each of those have to pay in taxes. So, as you mentioned, Andrew, if you just start to see clients, you don't form an entity, or if you do form an LLC or PLLC, you're taxed by default as a sole proprietor. So if you make $80,000 in profit, you're paying self employment tax on $80,000. Right. So 15.3% self employment tax on 80k comes out to $12,000. 240. So that's a big number.

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Michael Fulwiler [00:08:34]:

I think this is something that surprises a lot of therapists the first year in private practice, that they underestimate the amount that they'll owe in self employment tax, because this isn't something that you pay when you're an employee, right. So at 80k, you're paying about $12,000 in self employment tax. Now, as an S corporation, the way that it works is, as you mentioned at ADK and profit, you pay yourself what's called a reasonable salary, which we'll talk about how to calculate in this example, just for simple math, let's say you set your reasonable salary at 50% of your profit for your business. So at 80k in profit, your reasonable salary that you're paying yourself is 40k. So on that $40,000 in salary, you're paying payroll tax, which is comparable to self employment tax. So about 15.3%, that leaves 40k left, which you're able to take as owners distributions or owners, draws now on that $40,000, you're not paying self employment tax. So you're saving 15.3% on 40k, which is essentially going to cut your self employment tax in half. So on that 40k, you're actually only paying 6120 in self employment tax or payroll tax.

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Michael Fulwiler [00:10:06]:

So you're basically saving $6,000. So you can see just at that, like very basic example, $6,000 on $80,000 in profit is pretty great. Now, that's not accounting for additional expenses of operating as an S corp. You mentioned a few of those expenses. Could you walk through what those are and how much those tend to cost?

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Andrew Riesen [00:10:30]:

So, there are a number of different expenses associated with being an S corp, but also from a sole proprietor tax standpoint. So if you look at the tax return for a self employed individual, not somebody that's filing as an S corpath, they also have the qualified business income deduction. They also get a percentage of their self employment tax that theyve paid back at the end of the year. And so when youre on that marginal line of does this make sense? Does it not make sense? Theres also deductions that you can take that will maybe make it make sense for you to be a sole proprietor. And so first of all, want to acknowledge that. Secondly, from an administrative cost standpoint, when you become an S corpath, you are filing your form 2553, my broad recommendation. It's a very straightforward thing to file. Heard can file it for you.

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Andrew Riesen [00:11:19]:

We do it for free for all of our folks. But if you go to a lawyer, they're probably going to say, hey, pay me $1,500 for this. And that's when you stop and you say, what are you actually doing for the $1,500 that I'm paying you for this? This is not a knock on lawyers, but I always like to do the diligence before you end up having that conversation with the lawyer, which can add up really quick because they bill on an hourly basis. So that could be cost number one, cost number two, when you become an S corporation, you have payroll that you need to set up. And so on average, whether you're looking at gusto or Heard payroll, or you're looking at ADP or square, you're pretty much ballparking 500 to dollar 700 right there a year that you're responsible for paying. This is not withstanding the fact that you might also have employees as well. And so there's an incremental cost for every employee that you add, or maybe you pay an accountant to do payroll, in which case it would probably be a lot more expensive. And then you also have a business tax return that you're responsible for filing.

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Andrew Riesen [00:12:20]:

The average 1120s business tax return for s corporations is $923 according to the association of CPAs. I probably said that maybe it's CPAA, but whatever it is from the National association of CPAs, it is $923. And so you can assume there's an incremental cost of basically $1,000 plus 500 or $700, whatever you decide to pay for that. And then you're also picking up administrative burdens as well, because accounting becomes different. You cannot just operate in a spreadsheet. It is okay to do that when you're a sole proprietor. You have a simple business, but when you're having to start up thinking of things like, what does my statement of retained earnings look like? What does my balance sheet look like? What are my cash inflows? Outflows. How many distributions have I taken.

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Andrew Riesen [00:13:13]:

And then there's also the legal side of it of have I held, you know, meeting minutes this year, which is a legal requirement for every S corp needing to hold a meeting minutes on an annual basis. And then some certain states have franchise tax assessed against the S corporation as well. And so New York City, as an example, has additional tax that they levy against S corporations. California has a franchise tax that they levy against S corporations. And other states have some taxes as well. So get a sense of what your state specifically looks like or what your geographic location looks like, and so those costs can add up really quickly. And the other piece is when you become an S corporation, it probably makes sense to work with an accountant as well, somebody to help you tackle that accounting. And so those costs add up.

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Andrew Riesen [00:13:57]:

And so make sure you have a good sense of what those total costs are. Cause they can quickly, you know, go from $0 to 2500 or $3,000 of cost that you hadn't been paying on an annual basis.

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Michael Fulwiler [00:14:09]:

With that said, when does it make sense to start to think about s corp in terms of your annual income?

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Andrew Riesen [00:14:16]:

I feel like I'm taking your fire here, man. You have the, the beautiful infographic that you put together. Michael will leave the infographic on YouTube. Yeah.

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Michael Fulwiler [00:14:24]:

For those listening to the audio only.

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Andrew Riesen [00:14:26]:

Yeah, yeah. Just imagine in your mind, so when does it make sense to become an S corporation? You could ask 100 different accountants this question, and they probably give you 100 different answers. But my goal is to provide a rough framework for how you might think about this. If you are in 48 states that are not California or New York, then when you get closer to 60k in business profit or 80k in business profit, my recommendation is that you have a conversation with an accountant and you start to explore what those tax savings might be like, what some of those additional costs might look like, and do the math or calculate. I know we have a calculator on our Heard website or joinheard.com website in our resources section, so that could be a good place to start. But if you're going to make that commitment to the broader change, have a conversation with a professional for sure. Now, if you're in California or New York because there are different taxes that are levied against your s corporation, my recommendation is probably closer to 100k or beyond 100k in profit. And to be clear, what is profit? Profit is not the number that shows up in simple practice as the total billings from what you have earned from your clients.

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Andrew Riesen [00:15:39]:

Profit is the number that is left over after the expenses in your practice, right? And so in simple practice, you see, or your therapy notes, whatever you see, hey, I've billed $100,000 this year. That's amazing. I've made $100,000. Actually you haven't made $100,000 because you've paid for simple practice, you've paid for your liability insurance, you've paid for healthcare, you've paid for all of these things. And so whatever is left over after that, that is your profit. And so when you think about this equation, think about the profit number, and that's a good thing. That Heard can help you figure out is how much profit am I earning or whether it's a spreadsheet or other accounting software. Shameless plug though, I love to stay.

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Michael Fulwiler [00:16:22]:

Right here and talk about California specifically because California has some unique rules, specifically around business entities therapists are able to form. Could you talk about that and then how that impacts the decision or not to take the S corp route?

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Andrew Riesen [00:16:37]:

Yes. So in becoming an S corp, we talked about this briefly at the beginning of the podcast. You need to form a business entity, so you cannot elect to be taxed as an S corp from a sole proprietorship. And so what is a sole proprietorship? Really quickly, if you do nothing else outside of start to see clients in the eyes of the IR's, you're going to be considered a sole proprietor. And so if you're like, do I have a business entity? You would probably know if you've set up a business entity. And so in California specifically, this is one we like to talk about. And different states have nuances, right? And so New York has an example of this as well. But in California you are unable to, as a licensed clinician, form an LLC or a PLLC.

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Andrew Riesen [00:17:23]:

If you have a coaching business and you're listening to this, you can form an LLC, but as a licensed clinician or licensed professional in California, you need to form a professional corporation. If you want to form an S corporation and why this is important, you're like, cool, sounds good, that's what I'll do. Why this is important is if you form a professional corporation and you do not elect to be taxed as an S corp or the IR's says, hey, not this year, next year, 11 20 25, you'll be an S corp. That puts you in a sticky situation. And so a professional corporation by default is taxed as a C corporation and a C corporation faces double taxation. And so there's taxation on the money that's earned in the business, and there's taxation on the money that is passed through back to the owner. We don't like double taxation. That makes sense for big corporations that are making lots of money that aren't regularly doing shareholder distributions.

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Andrew Riesen [00:18:17]:

But for businesses that are high margin small businesses by default, forming an S corporation is going to be a lot more logical than forming a C corporation. And so if you are going to form an S corporation, ensure that you're able to elect and do it in the given tax year in California. My recommendation in California specifically, try not to do any mid year transitions or mid year crossovers because that's when you're going to put yourself in the place where the S corpath might not be recognized by the IR's and then you might have half of the year that you're taxed as a C Corp. And that's not very fun.

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Michael Fulwiler [00:18:57]:

I want to talk about when to elect to be taxed as an S corporation. Before we get there, I'd love to talk about how to elect to be taxed as an S corporation. So you mentioned you submit form 2553, which is a tax form you submit to the IR's. What else do you have to do in order to elect to be taxed as an S corporation? And does that like automatically get approved by the IR's or is there a review process and how long does that even take? Could you just kind of walk us through what the process is like of even how to elect to be taxed as an S corp?

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Andrew Riesen [00:19:36]:

Yes. So what are all of the steps to become an S corporation? First of all, we have an awesome checklist in our resources section. We will link it in the show notes of all the different tick marks that you need to have in order to become an S corporation. But let's imagine the base case you are running. Michael's therapy practice. And Michael's therapy practice started last year as him working at an agency, seeing five clients on the side and he was just a sole proprietor. And then all of a sudden, Michael's therapy practice, because he built an incredible niche and an awesome referral network. He was seeing 25 clients a week and he's like, wow, I'm making a lot of money.

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Andrew Riesen [00:20:15]:

I need to start saving some money on my taxes because I just got crushed in my first quarterly taxes. And so what Michael does, he's in California. So let's keep going alongside this example. Michael goes to the secretary of state in California and he says, I want to form a business entity. And he tries to do it and he didn't go to his licensure board first. So he didn't know that in California, there are specific naming conventions of how he can form the name of his business practice. So always go to your licensure board first, understand if there are specific naming conventions. Have a conversation with the general counsel about what type of business entity should I be.

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Andrew Riesen [00:20:53]:

All of that good stuff. That's a great place to start. And then go to the secretary of state, and you can file those articles of incorporation in California. You really can't use a legal zoom or a Zen business or one of these online platforms. They do not work well with professional corporations or PLLC's. Maybe that'll change over time. And so, in all likelihood, you are either doing this yourself or working with a legal professional. And so, let's assume that you're doing it yourself.

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Andrew Riesen [00:21:20]:

So you file the articles of incorporation, you probably wait in California anywhere from like five to ten business days, and you hear back, maybe quicker, maybe longer, just depends on the different time of the year after you hear back. Then you go to the IR's and you file for your einh. You'll get your ein same day if you do it online. And then I think it's like two weeks or so before the EiN becomes active, and then at that point, you can go to the IR's. Once you have an active ein and file the form 2553 and elect to be taxed as an S corporation in certain states, there are additional filings that you need to have to let the state know that you're electing to be taxed as an S corporation in California, as an example. So let the franchise tax board know and the secretary of state know. And once you've done that, you'll then need to set up payroll, set up a reasonable salary, and in California, as an example, they have the employment development department. So that's another rabbit hole that you have to go down to get a specific identification number to run payroll.

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Andrew Riesen [00:22:24]:

And so, long story short, there are a lot of steps to this process insofar even as the form 2553 or the filing process, that can be two months, that could be three months till you hear back, oftentimes, not sooner. Maybe you won't ever hear back from the IR's because they have a lot of paperwork sitting around their offices, and they don't always respond to the faxes. And so at a certain point in time, it makes sense to start calling and following up and saying, hey, this is the election date that I had. I filed this form. Did you receive it? Is it accepted? Can you send me the acceptance letter or the confirmation, the CP 261, there's several other variations of that as well. And so it takes time. And so give yourself time and give yourself the grace of the process. And so from a timeline standpoint, if you want to elect on the first of the year and you don't have a formal business entity, give yourself a couple months to get through this entire process.

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Andrew Riesen [00:23:23]:

You can of course, always elect for late election relief after the actual filing deadline. The actual S corporation filing deadline to elect to be taxed as an S corporation is March 15, the same as the actual business return deadline. So you can file after that. And there are various different reasons that you could employ as to why you might be filing after that deadline. But recommendation is always, of course, to file ahead of the deadline. You'll be more likely to be accepted.

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Michael Fulwiler [00:23:50]:

Great, I'm glad we're going here. That's going to be my next question. When do you need to elect to be taxed as an S corporation? You said March 15. Is that for everyone? Is that just for people who have a business entity established? Because as you just explained, you have to form the business entity first, which could take some time. So could you walk through like what the timeline looks like for when to file and what the deadlines are for.

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Andrew Riesen [00:24:16]:

That in terms of the timeline for filing to become an S corporation? I dont want to provide anything super explicit here because it can look totally different for different people. And so again, if youre a sole proprietor and you havent gone through the steps of forming a business entity, getting an ein doing all of those things that it takes to form an actual business, which is the really hard part of becoming an S corporation because once you have a business entity, its pretty quick to just file the form and then know you're acknowledged or not. Again, still takes about two months to hear. But in all likelihood, if you do it ahead of the deadline, it probably will be accepted. And so there are also alternative examples, which is why I don't want to be explicit here of folks that have an example. One of my close friends, he runs a production agency and he filed to become an S corp in mid December, filed for a late election, relief was elected for that tax year. He covered the payroll taxes, had an appropriate reasonable salary and all that good stuff. And so you can do it pretty late in the game, but it'll cause a lot of undue stress and unnecessary stress.

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Michael Fulwiler [00:25:26]:

That makes sense. So there is a deadline, right, of you have to submit form 2553 by March 15. But technically you can still submit it after the fact, and you have to apply for late election relief, you're saying? Right. So you just have to make the case of why you submitted it late, it sounds like.

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Andrew Riesen [00:25:44]:

That's exactly right. And so the adverse example here of filing a late election relief and not having it accepted is, let's say you file it on April 15, and, you know, you formed a professional corporation in California already, and so you've been operating as a professional corporation during the tax year. You're going to get to the end of the 2024 tax year and be paying taxes on all the income in your business and what you're taking out of the business, and that's not going to be an exciting tax year. And so get a good sense of state, specifically what the potential impact could be if the actual s corporation election is not accepted. And of course, working with an accountant or a lawyer will probably increase the likelihood of getting it across the line because there's somebody that can follow up, been there, done that before, knows all the forms that they need to file, know the people to people to call. But there's a lot of resources online that can help you do that follow up as well, if you're looking to DIY, because I know a lot of therapists like to handle these types of things themselves.

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Michael Fulwiler [00:26:46]:

Our recommendation for therapists typically is that in the first year of private practice, don't even worry about this whole s corp thing. Just like focus on getting clients, setting up your business, and then once you have a good sense of what your annual income is, you can think about electing in your second year of practice. Are there scenarios where it does make sense to form an S corporation right from the beginning?

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Andrew Riesen [00:27:14]:

So what are some scenarios of which it could make sense to form an S corporation right from the beginning? Maybe you are, you know, a clinical psychologist or a marriage and family therapist in California, and you're cutting over from an agency or a group practice, and you're allowed to carry over your caseload. This could be any licensure type. I'm just adding a specific licensure type here. You're cutting over from an agency or a group practice, and you have a full caseload. And so this is January 1. You're rolling over that full caseload. You know how much you made in the prior year, even though there was a fee split on it, and you're looking at the year, you're like, oh, holy cow, I'm going to make 100,000 or 150 or 200,000. In that case, it probably makes sense to explore becoming an S corp.

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Andrew Riesen [00:28:02]:

And so having that foresight and having a conversation with a professional to do some math around the caseload and kind of the business forecast as to where you're going to land can be really helpful in just kind of baselining for you what it's going to look like. But I holistically agree with you, Michael. Oftentimes, even in those circumstances, you're figuring out how to run the clinical side of your practice. You're figuring out how to balance the number of sessions that you want to do on your own, where you get support, how you set up all of your business systems. That's a lot to take on, on top of all of the additional accounting and financial administrative burdens that exist as well. So really take into consideration what those tax savings are, and even if that's something that's worth it in the first.

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Michael Fulwiler [00:28:43]:

Tax year, for people who are listening, who formed an S corporation without a full understanding of the implication, or maybe at the recommendation of an accountant, where they're now realizing it actually doesn't make sense, what are their options? Are you able to switch back from an S corporation to be taxed as a sole proprietor?

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Andrew Riesen [00:29:07]:

100%. So in the example of you formed an S corporation, you thought your business was going to go one way, and then you decided that, hey, Michael's therapy practice, I only want to hold five clients, and I actually really like the adjunct work that I do. And the other stuff that I do, you say, I don't think it makes sense to have an s corp. It's just costing me more than anything. It's just really annoying. I'm not actually saving any money. The first thing that you're going to do is you'll hold a quote unquote vote in your business, and you're probably a business of one. It's basically the meeting minutes to state that, hey, this business is going to dissolve, and this is like, best possible practice that you could employ here.

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Andrew Riesen [00:29:46]:

So you're holding a vote, and then from there you'll go and notify the IR's and you'll let the IR's know that, hey, I'm going to no longer be an s corporation. In certain cases, there's articles of dissolution that you have to file at the state level, and dissolution is just a fancy word for like, I'm going to dissolve this s corporation in the state that I'm in. And then there's also a form that you'll file. You could do it when you're filing your tax return at the end of the year you can do it outside of the process of filing the tax return. And of course if there's any financial obligations or debt or anything like that in the business entity or the S corporation itself, then you need to take that on as well.

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Michael Fulwiler [00:30:27]:

For therapists who elected to be taxed as an S corporation, but they haven't been paying themselves a reasonable salary, or they haven't been following the rules of operating as an S corporation, what are the implications?

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Andrew Riesen [00:30:45]:

So if I am a clinician and I have not been following the rules of running an S corporation, so if I haven't done my accounting perfectly, I haven't had the perfect reasonable salary. You're going to jail. Just cutting to the point now the.

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Michael Fulwiler [00:31:01]:

IR's is going to show up at your house, knock on your door, the.

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Andrew Riesen [00:31:05]:

IR's will come knock on your door. No, I'm only joking. I feel like that's a funny joke and I say it all the time, but it's really actually not that funny.

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Michael Fulwiler [00:31:11]:

It's like a real fear. Yeah, yeah, it is.

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Andrew Riesen [00:31:13]:

It is a real fear. So in the example of you not appropriately accounting for your financial records or, you know, employing the legal process that you need to employ or setting up a reasonable salary, so from a payroll standpoint, an employment standpoint, if you're doing that, that's okay. And that probably means that you either haven't gotten good guidance or haven't gotten the support that you need, and there's an opportunity from here forward to employ those best practices. Right? And so if you are maliciously not paying yourself a salary because you're like, oh, well, if I don't pay myself a salary, then I'm not going to have to pay any sort of employment taxes whatsoever. Please do not do that. That puts you at a major risk for an IR's audit. A major risk of the IR's not being excited about you holding the S corporation status anymore. And so again, have a conversation with a professional.

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Andrew Riesen [00:32:10]:

We have a ton of great resources on our website that help you understand these are all the steps that you need to include when you're getting an S corporation set up. This is how you maintain an S corporation throughout the year. This is what it looks like to file taxes at the end of the year. And so do your absolute best to hold the diligence of setting it up appropriately, managing it correctly, and filing taxes correctly. And a big part of that is maintaining a reasonable salary. And that could look different on a year over year basis. And so get a good sense of where your business is at and what the appropriate salary is. Because when you have an $80,000, you know, business, a $40,000 might make sense, but then your business grows to $240,000.

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Andrew Riesen [00:32:53]:

It might not make sense to have a reasonable salary of 40%. And so have a conversation with a professional. The big challenge of S corps in general is you could talk to, again, 100 different accountants and they'd all give you a different answer. And so ultimately, at the end of the day, the judgment is on you as a business owner as to how to most appropriately run your s corporation based on all of the guidance that you've been receiving.

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Michael Fulwiler [00:33:15]:

What are some other factors that impact a reasonable salary? Is it just based on your business profit, or are there other things that determine what your reasonable salary should be?

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Andrew Riesen [00:33:28]:

The reasonable salary is determined by a number of different qualitative factors or variables, right? Where are you located? How many years have you been in practice? What is your licensure type? What is the amount of money that somebody typically makes? If they were working out at a group practice or somewhere else, or if they were owning that group practice, what is the salary of what they might reasonably make? And so there's x number of variables beyond that as well. That is not limited to the subset of variables. But ultimately, at the end of the day, if you talk to an accountant, they're pretty much always going to get back to, if you push them pretty hard, of 40% to 60% of business. Profit is where your salary range should probably fall. But certainly as you're going through the process of understanding what your reasonable salary is, understand where you're located in all of those different factors of who you are as a professional and take that into consideration, right?

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Michael Fulwiler [00:34:22]:

This was a really important point because technically, the lower your salary is, the less you're going to pay in payroll taxes and then the more you're going to save in terms of that self employment tax savings on those distributions that we talked about. So I also imagine that theres somewhat of a risk tolerance factor here as well, right? Of like whats the lowest youre willing to go from a risk perspective in terms of getting audited. So if you are more risk tolerant, paying yourself a lower salary in order to maximize those savings, but also to your point, you then open yourself up to the potential audit, which isnt fun. And if you do get audited and you have been paying yourself a salary that is too low, what happens if.

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Andrew Riesen [00:35:14]:

You get audited and have been paying a salary that is too low in all likelihood the state level and federally there will be additional taxes that are levied against you that youre responsible for paying. And so reiterating youre not going to go to jail, but there will be additional taxes that you are responsible for paying and then you'll be responsible for adjusting that salary to a more appropriate place on the go forward.

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Michael Fulwiler [00:35:37]:

Ir's basically saying you should have been paying yourself this amount or this is a reasonable salary. So this is the payroll tax. Essentially those back taxes that you didn't pay that now you owe.

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Andrew Riesen [00:35:50]:

Yeah, they'll make an assessment.

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Michael Fulwiler [00:35:52]:

One of the common misconceptions that I hear about S corps is related to quarterly taxes. So some therapists may have heard that, oh, if I'm taxed as an S corporation, I don't have to pay quarterly taxes because I'm paying payroll taxes when I run payroll. Is that true?

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Andrew Riesen [00:36:12]:

When you are an S corporation, you are still responsible for paying self employment tax and specifically quarterly taxes. And so as an S corporation you're still a self employed individual and separate from your reasonable salary and the taxes that you're paying through your payroll service provider, whether it's gusto or Heard payroll, whatever it might be, you have profit that is leftover that is coming back to you as the business owner that is not being taxed throughout the year. Right. And so let's imagine in that example you have $80,000 that you're earning $40,000 in payroll on. That $40,000 inclusive of that is the federal income tax, the state income tax, the payroll taxes. So Social Security, Medicare, unemployment, all that good stuff that leftover $40,000, youre still responsible for paying quarterly taxes to cover the federal and the state income taxes, even if you dont have to cover the self employment taxes that you might have otherwise been responsible for covering if you were a sole proprietor. And so yes, you still have to pay taxes on that. One way people approach that is increasing the withholdings on their payroll, but buy and hold.

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Andrew Riesen [00:37:30]:

The most common way to do that is to just calculate it on a quarter over quarter basis or look at your prior tax return and take a safe harbor approach.

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Michael Fulwiler [00:37:38]:

Are there other misconceptions or myths about s corporations that you've heard?

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Andrew Riesen [00:37:46]:

One of the most common myths that we've alluded to and talked about here is that S corps don't pay any additional taxes. And so this is a very common one. And this is often stemming from this concept that all profits in an S corp can be taken as distributions to avoid having to pay payroll. Another myth is that S corps are only for large businesses. They're not only for large businesses. S corps are a great tax entity or election for a service business that is very high margin. Most therapist businesses are operating at a 70% to 80% margin, especially in a telehealth first world. And so it's a great option for s corporations at a certain level of earning.

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Andrew Riesen [00:38:32]:

Another myth would be that S corps provide complete liability protection for therapists. As a therapist, you are responsible for having professional liability insurance, and whether that's through the CPH or the trust or wherever you might get it as a licensed professional, just in setting up a business entity, you're not going to have complete protection over your personal assets. So make sure that you have all the appropriate insurance in place. I have talked a lot about this, but this concept that forming an S corporation is really complicated. It's really expensive. Yes, there are steps to forming an S corporation, but you can do it, and there are a lot of people that have done it before. There are a lot of great resources out there on how to do it. It does take time.

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Andrew Riesen [00:39:20]:

But in the same way that you were able to start your practice, taking all of this clinical work, learn how to manage the financial workload, you are more than capable of learning what it means to be an S corporation owner. One last one here would be that S corps can have unlimited shareholders. And this is probably not relevant to many therapists on here, but s corporations can have no more than 100 shareholders. And so if you have ambitions of building a monstrous group practice and having more than, you know, 100 folks in that group practice, that all have ownership in the business, and S Corp might not be the right type of business entity for you.

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Michael Fulwiler [00:40:01]:

It sounds like setting up and establishing the s corporation is relatively straightforward. Remaining compliant as an S corporation, determining your reasonable salary, filing those payroll reports, that gets a little bit more complicated. How does Heard help therapists manage the S corp process?

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Andrew Riesen [00:40:24]:

Heard is really awesome at the process of determining when it's appropriate to become an S corporation. And so let's say that you're a Heard customer and you're like, hey, I want to be an S corporation. You would work with our accounting team to determine whether or not that makes sense, and they would provide you all of the context and probably more than you'd even like on the administrative costs, the time costs, the potential benefits, what are the forms that you need to file? What are the processes that you need to file? Ultimately, at the end of the day, much of this action or onus, whatever accountant or lawyer you work with is on you as the business owner. And so we'll provide you a lot of the guidance, and then you will take certain steps. We'll check in with you along the way. We'll follow up if we need to make sure that the election has actually been accepted. And we will certainly enable you to use payroll through our platform, will help you set up a reasonable salary and all of that good stuff. So all of those kind of sticky, challenging steps through the process, we will be there walking alongside of you, hand in hand, whilst also acknowledging a common misnomer about working with accountants.

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Andrew Riesen [00:41:39]:

Whether it's heard or otherwise, there's work that you have to take on and tackle yourself as well. But we'll be there to help you understand what that is.

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Michael Fulwiler [00:41:45]:

Two things here I want to mention. So the first is we'll also reach out to you proactively in the beginning of the year and let you know that you're a good candidate for electing to be taxes an S corporation. If you made $100,000 in profit last year as a sole proprietor, we'll let you know. Hey, you could be a good candidate for s corporation with the caveat to your point that at the end of the day, it is your choice as a business owner. And I think it's very important that you don't feel pressured to do the S corporation. And I think a lot of accountants will do that because of their own self interest. Right. Because they can charge more for a business tax return.

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Michael Fulwiler [00:42:31]:

They can charge more for kind of accounting fees throughout the year as well. And so just make sure that it makes sense for you and it feels good. And that's something that we'll never pressure therapists to do, but it's helpful to know what your options are.

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Andrew Riesen [00:42:49]:

That's exactly right. Yes. It's always important to remember that as accountants, we make more money when you are an S corporation because there is payroll, there's an additional tax return, and we're there to support you, but we will also be there to help you along the way and work through that process. And, you know, for an example, if you have some bookkeeping no nos that are different for an S corporation versus a sole prop, we'll be there to help call those out as well.

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Michael Fulwiler [00:43:14]:

Great. Well, Andrew, this has been super helpful. Any closing thoughts to leave folks with here?

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Andrew Riesen [00:43:21]:

Thank you for having me, Michael. It's always good to come chat through these things. I think the same thing that I say in every workshop that we do and we do lots of different workshops is don't have an expectation on yourself that you'll listen to a podcast like this or you'll read one of our resources and you're going to become an expert. The main goal for you as a business owner should be to become financially literate, legally literate. Insofar that you understand the process. You don't have to be an expert, you don't have to be the one that does it. Oftentimes it makes sense to outsource these things once you understand it, but once you start diving into it and really understanding the concept, you're going to be able to have much more effective conversations with your accountant, with your financial planner, with your tax filer at the end of the year. With a legal professional and knowledge around this type of information, especially as a small business owner, is really power.

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Andrew Riesen [00:44:22]:

And so don't expect yourself to be an expert right away. But kudos to you for spending the time to listen and learn and become financially literate around these concepts. That's what it's all about.

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Michael Fulwiler [00:44:32]:

Definitely. If you've made it to this point in the show, you're already so far ahead than so many other therapists out there and so definitely commend you for that. We have an S Corp webinar recording that will drop in the show notes. We have an S Corp guide. We have an S Corp checklist that you mentioned as well. So we have a ton of free resources. We'll throw those in the show notes, so definitely encourage you to check those out if you're interested and learning more about what we've talked about today. Andrew, thank you so much again.

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Michael Fulwiler [00:45:03]:

Thanks for listening to this episode of Heard Business School brought to you by Heard, the financial back office for therapists, visit the Heard Resource Hub at joinheard.com to support you in your journey as a private practice owner. And don't forget to subscribe on YouTube, Apple, Spotify or wherever you get your podcasts. We'll see you in the next class.