• Under current law, corporations in the United States pay federal corporate income taxes levied at 21%, plus corporate taxes that can range from 0 to 11.5%. 

• This results in a combined average top tax rate of 25.5% in 2021, making the US tax rate above average when compared to their peers.

• Corporations may deduct state corporate income tax paid against federal taxable income, lowering their federal corporate income tax rate. 

The month of July, 2021, has seen more than 52,000 business formation applications in order to form corporations, according to the United States Census Bureau. This indicates a 1,2% growth, with the greater majority of applications stemming from the West.  A corporation is a business recognized by the state as a legal entity separate from its owners/shareholders. As a separate legal entity the corporation offers a distinct set of advantages that entrepreneurs can explore. 

Tax Advantages of the Corporation

Corporations may deduct state corporate income tax paid against federal taxable income, which can lower the effective federal corporate income tax rate. For example, a corporation in Michigan may deduct tax paid at a 6% flat rate against a 25% federal corporate income tax, reducing the effective top federal rate to 23.5% according to the Tax Foundation. 

Additionally, Alabama and Louisiana allow full deductibility of federal corporate income tax liability against state liability, whereas Missouri permits a 50% deduction. Iowa previously permitted a 50% deduction, but repealed the provision while lowering its corporate tax rate to 9.8% in 2021. 

Furthermore corporations are permitted to reduce taxable income by certain necessary and ordinary business expenditures. All current expenses required for the operation of the business are fully tax-deductible. Investments and real estate purchased with the intent of generating income for the business are also considered tax deductible. 

Typically a corporation can deduct employee salaries, health benefits, tuition reimbursement, and bonuses. Corporations can also reduce their taxable income by deducting insurance premiums, travel expenses, interest payments, sales tax, fuel tax and excise taxes. Excise taxes are levied on specified goods, services and activities. 

Why Pay Corporate Tax?

Paying corporate taxes can be more beneficial for business owners than opting to pay an additional individual income tax. Corporate tax returns deduct medical insurance for families as well as fringe benefits which can include tax-deferred trusts. The legal structure of the corporation makes it easier to deduct losses as well. A corporation may choose to deduct the entire amount of losses while a sole proprietor must provide evidence regarding their intent to earn a profit before the losses become deductible. Any profits that the corporation earns can be left within the corporation, allowing for tax planning and future tax advantages. 

Special Considerations When it Comes to Corporate Tax

Double taxation is a central issue relating to corporate taxation. Double taxation is a tax principle that refers to income taxes being paid twice on the same source of income. This can happen when being taxed at the corporate level and on a personal level. Certain corporations are taxed on the taxable income of the company, however if this net income is distributed to shareholders individual income tax applies. 

To combat the double taxation issue an entrepreneur may choose to register their business as an S corporation and have all income pass-through to the business owners. S corporations are similar to C-corps in that the owners have limited personal liability, however they avoid the issue of double taxation. The S-corp is considered to be a pass-through entity, meaning that income, losses, credits and deductions can be passed on to the shareholders to be reported and taxed on their individual tax returns. It is important to note that all S-corp shareholders must be U.S citizens. 

The Takeaway

Apart from certain tax benefits, a corporation provides more personal asset liability protection to its owners than any other entity type. Shareholders are not personally responsible for corporate debts or legal obligations. This personal liability protection is one of the main reasons businesses choose to incorporate. Forming a corporation can have some red tape associated with it, however resources such as Incorporation Rocket, makes navigating the red tape much easier for entrepreneurs.