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Should I Inc.?

Should I Inc.?

As both a writer and tax advisor, I’m often asked by authors whether it makes sense for them to incorporate their writing business. The answer is – it depends.

Writers have several options when choosing the form through which to operate.

A sole proprietorship is owned and operated by an individual, usually under the owner’s name, though the owner can register an “assumed name” for their business with their county clerk’s office.

Limited liability companies, a.k.a. “LLCs,” function with the flexibility of a sole proprietorship, yet have the advantage of also providing limited liability protection for business owners without the formalities required for corporations.

S corporations are small, closely held corporations, while C corps are often publicly traded and widely held. Both S and C corporations are required to have bylaws, hold shareholder meetings, and maintain extensive books and records to document corporate actions.

The simplest business form, and the one that makes sense for the vast majority of writers, is the sole proprietorship. However, some business owners choose to form a separate legal entity for their businesses in order to achieve limited liability protection or certain tax benefits. Beware, though. Business advisors have their own interests at stake. Often the primary result of forming an LLC or corporation is to generate fees for the advisor.

The Liability Issue. Despite lawsuits against writers such as J.K. Rowling and Dan Brown, legal action against writers is rare. Still, nobody wants to face the potential loss of personal assets. Forming a separate entity through which to operate a writing business can protect a writer’s personal assets from being seized to satisfy a judgment if the business is sued and loses the lawsuit. However, because forming and running an LLC or corporation costs more time and money than a sole proprietorship, a writer should seriously consider whether a real risk of liability exists before forming a separate business entity. In most cases, the risk of losing a lawsuit is negligible and forming an LLC or corporation isn’t worth the time and cost.

Tax Considerations. The income of LLCs and S corps is not subject to tax at the LLC or S corp level. An LLC with only one owner can report its income on a Schedule C just as if the business were a sole proprietorship. For S corps, a separate tax return must be filed (Form 1120S), but the form is an informational return only and no tax is paid with the return. Instead, the S corp’s income flows through to the shareholder’s individual income tax return, where it is reported on Schedule E and taxed at the individual income tax rates.

Unlike S corps, C corps are subject to tax at the corporate level. In some instances, the formation of a C corporation can save tax by permitting the division of income between the writer and the corporation and thus spreading income over the lower tax brackets for individuals and corporations. Unless the income of the C corporation is high enough, though, the cost of paying a professional to prepare the corporate tax return, as well as the costs associated with operating a corporation, may exceed any tax savings. Moreover, the writer would need to be paid a salary from the C corporation, which would require payroll taxes to be withheld and reported and a W-2 to be issued to the writer at year end. Thus, in many cases, the formation of a C corporation would unduly complicate matters and impose additional expense on the writer. What’s more, the income of a C corporation whose primary income is from royalties may also be subject to “personal holding company tax,” which is a 15% tax in addition to the income tax. A tax pro would need to examine a writer’s specific financial situation to determine whether forming a C corp makes sense.

Writers should also be aware that for state income tax purposes, the formation of a separate legal entity may subject their income to additional taxes the writers may avoid by operating as a sole proprietorship. Thus, forming a separate legal entity can backfire tax-wise, resulting in additional taxes and filing requirements and taking up more of the writer’s precious time and money.

The Bottom Line. The bottom line is that in the vast majority of cases it’s best to operate as a sole proprietorship. But if your writing is high stakes or high income, you should consult your legal or financial advisor to determine if forming a separate entity is right for you.

Diane Kelly’s debut novel, “Death, Taxes, and a French Manicure,” will be released in Sept. 2011.  Sign up for Diane’s newsletter, full of tax tips and writing news, at www.dianekelly.com.

20 responses to “Should I Inc.?”

  1. Laurie Kellogg says:

    Interesting, Diane. Thanks for differentiating the various accounting options for us.

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  2. Tina Joyce says:

    Thanks Diane for laying this out so clearly! My husband and I were discussing this very subject the other day and wondering what the advantages/disadvantages of each option were.

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    • Elise Hayes says:

      Ditto.

      I’d heard that the LLC was the way to go to limit personal liability, but your point about how that might be overkill for most writers (and cost both time and money) is a good one. OMG, if I ever get published (scratch that–*when* I get published someday), there’s going to be *so much to think about*!!

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  3. Elisa Beatty says:

    Wow! A whole new area where I need to educate myself as a writer! Yet another thing to figure out before I reach publication. (I do perversely love the idea of having to hold shareholders’ meetings. We could do it at the dinner table, and include the dog and cat, and maybe get my CP on speaker phone.)

    Thanks for the helpful info, Diane! And congrats again on your forthcoming DEBUT!!!

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  4. Kelly Fitzpatrick says:

    Writing is a mental illness for which I should be getting some sort of disability check, not more taxes.

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  5. Tamara Hogan says:

    (steadfastly refraining from making a ‘welfare check’ joke in follow-up to Kelly’s comment…)

    I do a pretty good job keeping up on business expenses, but I positively vapor-lock on this topic. Diane, thanks for this essential information.

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  6. liz talley says:

    Yes, thanks for this. Make me stare at my stack of receipts nestled in the corner of my desk. I hand everything over to my accountant and let him deal with it. Probably not good business sense, but with so much on my plate, I tend to not stick my nose where I *think* it doesn’t belong. I need to do better in this area of my life.

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  7. Diane, one thing I’ve wondered is whether forming a company under one’s alias can allow an author to register her copyright under that alias, rather than under her legal name. If one of these options can help an author maintain her privacy, that’s a big point in incorporation’s favor.

    Perhaps there’s another way of not revealing one’s true name in the front matter of a published book, but it looks to me like most authors who put a pen name on the front of a book use their legal name for the copyright notice.

    My understanding of copyright forms is that there is an option for registering a book under a pseudonym, so do most authors just choose not to do it?

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    • Shea Berkley says:

      Ooohhh, great question, Jamie. I’d like to know this too.

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    • Diane Kelly says:

      Yes, there is another option! You can get a formal name for a sole proprietorship by filing an “assumed name certificate” (at least that’s what they’re called in Texas) with the county clerk’s office. If you use your pen name as your assumed name, you can then legally operate under the pen/assumed name and use that for your copyright. Assumed name registrations are public record, however, so someone truly intent on identifying someone could likely find it if they put some effort into searching.

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  8. Darynda Jones says:

    This is so timely as I’ve been wondering this very thing!!! Thanks so much for all the info. I have a couple of questions but have to run. Hopefully I can get back to this tonight, Diane.

    Great post!!!
    ~D~

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    • Darynda Jones says:

      Okay, so I think for now I am just going to keep on truckin’ like I am. No LLC or anything would be the sole proprietorship, right? So, just us as writers with nothing legal added on.

      Thank you so much for laying this out like this. I listened to your tape from DC, Diane, and learned so much from it, but this really helped.

      Thanks again!
      ~D~

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  9. Shea Berkley says:

    This kind of talk is what I call dirty talking. It’s messy cause God forbid the IRS make this clean and easy for us to understand. Ugh!

    Thanks for the information, Diana. We all need to think ahead and take charge of our own finacial business (even if it makes me want to run and hide).

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  10. Vivi Andrews says:

    Thanks for the corp info, Diane. I’m currently fretting over whether I need to be making quarterly tax payments. The joys of taxes! 🙂

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    • Diane Kelly says:

      If you’ll owe more than $1,000 with your tax return at the end of the year, you may need to make estimated taxes to avoid an underpayment penalty. The penalty does not apply if you’ve paid in 90% of the current year’s tax or 100% of the preceding year’s tax (110% if your income was $150,000 or more in the preceding year). So be sure that you have paid in the requisite 90% of the current year’s tax or 100%/110% of the preceding year’s tax to be certain you won’t end up with an underpayment penalty.

      That said, you may still owe tax at the end of the year even if you’ve paid in the requisite amount to avoid the penalty. If you want to make sure you’ve paid in enough to both avoid the penalty and to pay all tax that will be due, run through the computations on page 7 of the instructions for Form 1040-ES. Take the total from line 13c and subtract the amount you expect to be withheld from your paychecks if you have a day job (as well as your spouse’s withholding if you are married and file jointly). You can pay the remainding tax in equal installments on the quarterly due dates. Alternatively, if you’re not sure when you’ll receive a payment or how much it will be, you can wait until after you’ve received a payment and divide the tax due on that payment equally among the remaining estimated tax payments. Be sure to include both income tax (a rate chart appears on p. 8 of the Form 1040ES) and the 15.3% self-employment tax (social security tax).

      Fun, huh? : )

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  11. Thanks, Diane. This is something I was wondering about too. Vivi brought up the point about quarterly taxes. Is this something we can do? If so, how?

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