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A roadblock that we’ve been coming across recently with a number of clients is their CPA/Accountant advising them against using 401(k) financing (ROBS) to finance their franchise location. In most of these cases, it is because the CPA/Accountant is either unfamiliar with the Rollover for Business Startups (ROBS) program or uncomfortable with the tax structure of a C-Corporation.
This is not very encouraging to hear, especially since the ROBS program has been a great way for thousands of franchisee candidates to open their businesses debt-free since it was created by the IRS as part of the ERISA Act of 1974. There are so many benefits and advantages to utilizing this program, it’s a shame that franchisee candidates are being deterred from it due to concerns over the C-Corporation component.
In an effort to dispel any myths and clear the negative air that seems to have surrounded C-Corporations, this article will attempt to educate you on what a C-Corporation is, where the concerns arise, and the advantages when entrepreneurs select this business structure.
What Is a C-Corporation?
Business entities, in the eyes of the Federal Tax Code, are categorized as either Pass-Through or Non-Pass-Through Business Entities, with the main difference being that Pass-Through entities are not required to pay corporate taxes. These include sole proprietorships, partnerships and S-Corporations.
C-Corporations are Non-Pass-Through entities, completely separate taxpayers from their owners, and subject to the corporate taxes. This is often where pushback from a franchisee’s CPA/Accountant comes in. Because income earned by the C-Corporation is taxed at the corporate level and any distributions made to stockholders (i.e. wages) are taxed at the stockholder’s individual tax bracket, the potential of “Double Taxation” scares off tax advisor’s unfamiliar with the other benefits of the ROBS program.
But this should not be the only consideration when looking at ROBS as a funding option, because while their exists the potential for Double Taxation, there are advantages to the C-Corporation structure for small business owners versus Pass-Through entities.
Advantages of a C-Corporation
Although Pass-Through businesses are not subject to federal corporate income tax, they can still face a substantial tax burden from federal, state, and local taxes.
With last year’s new tax reform and the various tax-benefits available to C-Corporations, the tax disadvantage has been significantly reduced from a few years ago.
The corporate tax rate decreased to 21%, which is lower than the tax rate for pass-through income, and because most individual tax brackets were also decreased, distributions are taxed at a lower rate as well.
Operators of the C-Corporation may also withdraw salaries from the corporation’s profits, which aren’t taxed at the corporate level. If the company pays its employees enough to offset the entire net profit, then no corporate income tax is due, eliminating the “Double Taxation” potential.
But the benefits and allowances a C-Corporation gives a business owner means that the advantages extend much farther than just a lowered tax rate. The ability to shift income and retain earnings within the company for future growth, not being required to coincide their Fiscal Year with the calendar year, deducting 100% of medical premiums, eligible to deduct charitable contributions as a business expense, etc.
And the biggest advantage of all? A C-Corporation is the only business entity that supports ROBS.
