The key reason of whether or not to incorporate revolves around the tax cost. Here's the general rule: Profits mean you should incorporate.

#### Share

The key reason of whether or not to incorporate revolves around the tax cost. Here's the general rule: Profits mean you should incorporate. Let's define a "successful business" as one having a bottomline profit of \$150,000 or less.

How does incorporation save taxes? The answer lies in the corporate tax rates for C corporations, which follow.

 Income Rate Under \$50,000 15% Next \$25,000 From 24 Next \$25,000 34 \$100,000 to \$335,000 39 Over \$335,000 34

The individual tax rates start at 15 percent and go up to almost 40 percent. The best way to understand how the corporate and individual rates can be used in tandem to slash your tax bill is by a concrete example.

Assume Mary Entrepreneur operates a successful home business as a tax paying corporation, called Things & Stuff, Inc. Her husband, Sam, earns in excess of \$200,000, which puts Mary and Sam in a solid 40 percent personal tax bracket. Last year Things & Stuff's profit was \$60,000. This kicked up only a \$10,000 corporate tax.

If Mary had operated as a sole proprietorship, her \$60,000 of Things & Stuff income would have been added to Sam's income. This change would have resulted in \$24,000 (\$60,000 x 40 percent) in tax. The corporation saved \$14,000 (\$24,000 minus \$10,000). Smart move, Mary!

Single business owners have special tax problems-all bad. During life: No, joint return; only a \$10,000 gift exclusion per year donee (instead of \$20,000 when married). At death: No marital deduction to stop the estate tax; only \$625,000 estate tax free (instead of \$1,250,000).

Well, here's a true talc of a single business owner.

Joe (a vigorous 68 years young) operates his business (a C Corporation,Success Co.) with his only son, Sam. He has three daughters-none in the business. Aside from Success Co., Joe's taxable estate includes land and building, which he leases to Success Co.; and two life insurance policies-one for \$500,000 owned by and payable to Success Co., and one for \$600,000 owned by Joe and payable to his kids equally.

We divided Joe's tax plan into two parts-lifetime planning and death planning. Following are the significant points of each plan. For the lifetime plan:

1. Enter into a long-term lease for the real estate between Joe and Success Co. The terms include raising the rent to fair market value and giving Sam an option to buy after Joe dies. Then transfer the real estate to a family limited partnership (FLIP).
2. Immediately gift voting and nonvoting control of Success Co. to Sam. Joe is comfortable with this action, and it greatly early reduces the value of Success Co. for estate tax purposes.
3. Every year gift \$10,000 of Success Co. stock to Sam and an equal amount of limited partnership interests in the FLIP to each daughter.
4. Transfer the \$500,000 life insurance policy from Success Co. to Joe.
5. Gift both insurance policies to his daughters. This gets \$1.1 million (\$500,000 plus \$600,000) out of Joe's estate.
6. Elect S corporation status, so Joe can take tax-free dividends from Success Co. in excess of his salary, which will decrease as he continues to slow down.

The death plan: Not much to do. Just a simple will leaving Joe's estate equally to the four kids.