When an S-Corp Costs You Money: The Profit Number You Need to Hit First

Everyone hears the same pitch: elect S-corp status and stop paying self-employment tax. It’s true — to a point. What nobody tells you is that an S-corp comes with a fixed annual cost of its own, and if your profit is too low, that cost is bigger than the tax you save. You can absolutely talk yourself into an election that loses money.

So before you file the paperwork, run the actual numbers.

Where the savings come from

As a sole proprietor or single-member LLC, every dollar of net profit gets hit with 15.3% self-employment tax — that’s Social Security and Medicare — on top of your income tax. An S-corp splits your profit into two buckets: a “reasonable salary” (your W-2 wage, which still gets payroll tax) and the rest, which comes to you as a distribution that skips the 15.3%.

Say you net $90,000 and pay yourself a $55,000 salary. The roughly $35,000 left over as a distribution dodges self-employment tax. At 15.3%, that’s about $5,355 saved. Real money.

Where the savings get eaten

Now the other side of the ledger — the part the viral videos skip:

• A second tax return. An S-corp files its own return, Form 1120-S. That’s a separate prep fee on top of your personal return — figure $1,200 to $2,500 a year for a real one.
• Actual payroll. That “reasonable salary” has to run through a real payroll system with withholding and quarterly filings. Budget $500 to $1,000 a year for a payroll service.
• New York’s fixed-dollar minimum tax. A New York S-corp still owes the state’s fixed-dollar minimum tax every year, scaled to your receipts.
• New York City doesn’t recognize the election at all. If you operate in the five boroughs, the city taxes your S-corp as a C-corp under the General Corporation Tax — an 8.85% bite the federal election doesn’t shield you from. That alone can erase the benefit for a city-based owner.

Stack those up and you’re often looking at $2,000 to $4,000 in new annual cost before you save a dime.

The threshold most owners get wrong

Here’s the blunt version. Until you’re consistently clearing roughly $40,000 to $50,000 in net profit, the election usually costs more than it saves. People elect at $20,000 of profit because a video told them to, then wonder why their tax bill didn’t move and their accounting fees went up. That’s the trap.

And the savings only hold if you pay yourself a defensible salary. Lowball it to juice the distribution and you’ve handed the IRS its favorite S-corp audit issue — I wrote about exactly that in S-Corp Reasonable Salary. There’s also a real planning win on the other side: as an S-corp owner you have to run your health insurance through your W-2 to keep deducting it, which trips up a lot of people.

The S-corp is a great tool. It’s just not a starter move. Get the profit first, then make the election work for you — not the other way around.

This article is general information, not legal or tax advice. Self-employment tax savings, reasonable-salary requirements, and state and city treatment depend on your specific situation. Talk to your accountant before making or revoking an S-corp election.