The mechanism in one paragraph
As a Schedule C sole prop / SMLLC, 100% of your net profit is subject to 15.3% self-employment tax (up to the SS wage base). As an S-Corp, you pay yourself a "reasonable salary" subject to FICA (the W-2 equivalent of SE tax), and the remaining profit is a "distribution" that skips FICA entirely. The FICA savings on the distribution is the S-Corp benefit.
The costs of S-Corp election
- Payroll service: $400–$1,200/year (Gusto, ADP, QuickBooks Payroll)
- Additional tax return (Form 1120-S): $400–$1,500 if done by a CPA; $200 if done on TaxAct/similar
- State S-Corp fees: $0–$800/year depending on state (California charges $800 minimum franchise tax)
- State payroll tax filings: Usually handled by payroll service
- Unemployment insurance (FUTA/SUTA): $400–$600/year on owner wages
- Workers comp (in many states): $200–$500/year on owner wages
Total annual overhead: $1,500–$4,500 depending on state and how much you DIY vs pay pros.
The break-even calculation
S-Corp savings ≈ (Distribution × 15.3%) − Additional overhead
Where distribution = Net profit − Reasonable salary.
Schedule C SE tax: $100,000 × 92.35% × 15.3% ≈ $14,130
S-Corp with $50k salary + $50k distribution:
FICA on $50k salary: $7,650
SE tax on $50k distribution: $0
Total payroll tax: $7,650
Savings: $14,130 − $7,650 = $6,480
Minus S-Corp overhead ($2,500): Net savings ~$3,980
The break-even table
| Net profit | Approx. Schedule C SE tax | Approx. S-Corp savings after overhead | Worth it? |
|---|---|---|---|
| $40,000 | $5,652 | −$500 | No |
| $60,000 | $8,478 | +$800 | Marginal |
| $80,000 | $11,304 | +$2,200 | Usually yes |
| $120,000 | $16,956 | +$4,800 | Yes |
| $180,000 | $22,460 (hits SS cap) | +$6,500 | Yes |
| $250,000+ | capped SS + Medicare | +$7,000–10,000 | Almost always |
Assumes reasonable salary of ~50% of net profit, ~$2,500/yr overhead. Actual savings depend on state, salary level, and how much payroll/admin you do yourself.
The reasonable salary problem
The IRS requires your W-2 salary to be "reasonable compensation for services performed." Too low → they reclassify distributions as wages and hit you with back payroll tax + penalties.
Benchmark: roughly what you'd pay someone else to do your job. Sources: BLS OES data, salary.com, local CPA advice. For most solo services, reasonable salary runs 40–60% of net profit. Aggressive "20% salary" tactics are audit bait.
Full reasonable salary guide here.
When S-Corp is actively bad
- Net profit under $50k. Savings don't exceed overhead.
- Income is very volatile. Locked into payroll all year even in bad months.
- You plan to take retirement money from an SEP-IRA or Solo 401k that's already set up — S-Corp requires recalculating contribution limits based on W-2, which can be lower.
- Your state has a high franchise tax (CA, TN, NH). Reduces or eliminates savings.
- You have major QBI phase-out concerns — S-Corp can sometimes make QBI worse.
The often-missed S-Corp wins
- Accountable plan reimbursements. As an S-Corp, you can reimburse yourself for home office, vehicle, cell phone expenses tax-free (not W-2 income). Requires a written accountable plan.
- Health insurance is W-2 wages. Self-employed health insurance is reported as S-Corp wages, then deducted — still gets the SE-HI benefit with cleaner mechanics.
- Retirement plans match W-2 wages. SEP-IRA at 25% of W-2 wages is simpler math than Schedule C. Solo 401k employer contribution similar.
How to elect
- Form an LLC (if not already) — $50–$200 state fee
- File Form 2553 to elect S-Corp taxation — within 2 months and 15 days of the start of the tax year the election is effective
- Set up payroll (Gusto, ADP, QuickBooks Payroll)
- Run yourself a salary at least quarterly
- File Form 1120-S by March 15 of the following year (extends to Sep 15 on request)
Form 2553 deadlines + late-election relief.
DIY services for entity setup
- LegalZoom — LLC $99–$299, S-Corp election add-on
- ZenBusiness — LLC $0 (state fee only) + premium support tiers
- Your state's Secretary of State website — cheapest, zero handholding
The pragmatic recommendation
- Under $60k net profit: stay Schedule C / SMLLC
- $60k–$80k: run the numbers for your specific state and expenses
- $80k+: S-Corp usually wins; elect by March 15
- $200k+: definitely elect; consider also a DB plan and an accountable plan
Is S-Corp right for your income level?
We calculate your exact S-Corp break-even given your state, expected payroll costs, and net profit.