A New Advantage of Subchapter S Corporations

The taxable income that Subchapter S Corporations pass through to their shareholders is unscathed by two additional taxes that take effect in 2013. (For a description of S Corporations, see Tax Classification of Businesses.)

S Corporation pass-through income is distinct from employment income or self-employment income. Of course, a shareholder-employee needs to take a relatively modest portion of S Corporation income as wages, triggering employment tax.

The 0.9% increase in the Medicare tax (0.9%) on high earners does not apply to S Corporation pass-through income.

The second additional tax of 3.8%, applies to net investment income of high earners, including interest, dividends, and capital gains. Even though S corporation pass-through income resembles a deemed dividend, it is not automatically subject to this net investment income tax. If the shareholder materially participates in the business of the S Corporation, then the net investment income tax will not apply.

Special rules apply to sales of stock of an S Corporation. In essence, that sale is classified as if the assets of the S Corporation were sold.

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