Examples:

• • Steve’s personal savings remained protected when his incorporated law firm was later sued by a disgruntled client for malpractice.
  • As a separate legal entity, Jill’s law corporation was able to purchase and hold title to the commercial real estate where her growing firm relocated.
  • Sadly, Ken passed away unexpectedly, but because his practice was incorporated, it was able to keep running until his daughter could take over.
  • After years operating informally, Mike had to quickly appoint a board, adopt bylaws, and start keeping corporate records when he finally incorporated.
  • By making an S-corp election and taking a modest salary, Diane was able to slash her firm’s employment tax bills on profit distributions.

How to Proceed:

• • Consult with a business attorney and CPA to determine if incorporating your law practice would provide meaningful liability and tax advantages.
  • Decide whether you want your corporation to be owned by a single attorney-shareholder or multiple legal professionals.
  • Choose a unique name for your law corporation that complies with the CA Rules of Professional Conduct on firm names and advertising.
  • File incorporation documents, create bylaws, select a board, and conduct your first board meeting.
  • Register your new corporation with the CA Bar and comply with all ethics rules regulating the practice of law through corporate entities.

FAQs:

• • Do I have to be incorporated to practice law in CA? No, law firms can operate as sole proprietorships, partnerships, or LLPs.
  • How much personal liability protection does a law corporation provide? Quite a bit for business debts and most legal claims, but usually not for your own professional malpractice.
  • Can non-lawyers be owners of a CA law corporation? In California, law corporation ownership and management is limited to licensed attorneys.
  • Will incorporating raise my risk of being audited? Not significantly – in FY 2022 the IRS audited only 0.7% of S-corps and 0.6% of small C-corps.
  • What happens to my law corporation if I’m suspended or disbarred? The CA Bar may assume jurisdiction over it and appoint new directors and officers.

Examples:

• • Ed mistakenly thought his law corporation would be taxed as an S-corp, but because he never filed Form 2553, the IRS treated it as a C-corp by default.
  • Nadia’s C-corp had to pay a 21% federal tax rate on its profits, then she had to pay tax again at her individual rate on the dividends she took that year.
  • On his CPA’s advice, Ari submitted IRS Form 2553 within 75 days of incorporating to have his law firm taxed as an S-corp, bypassing the C-corp double taxation.
  • Rather than facing corporate tax, Janet’s S-corp passed its income through to her individual 1040 return where it was taxed at her personal rates.
  • Saul wanted to bring in his friend’s IT company as a 50% shareholder in his law firm, but couldn’t do so and still keep his S-corp status.

How to Proceed:

• • Discuss with your CPA whether your law corporation should make an S election for pass-through taxation or remain a C-corp.
  • To elect S-corp taxation, submit IRS Form 2553 within 75 days of your corporation’s tax year start.
  • Coordinate with your CPA to report and pay estimated taxes on your individual 1040 return to cover your share of S-corp income.
  • Maintain proper corporate records and be sure all compensation is paid out as either W2 wages or shareholder distributions, not 1099 income.

FAQs:

• • Can I switch from a C-corp to an S-corp later? Yes, but there can be complicated tax consequences, so plan carefully with a CPA.
  • How are S-corp profits taxed for CA law firms? They flow through to your CA personal tax return and are taxed at the 1.5% franchise rate.
  • Are S-corp owner-employees required to receive a W2 salary? Yes, the IRS requires S-corp owners be paid reasonable W2 compensation for services rendered.
  • What if my S-corp has a net loss for the year? S-corp owners might be eligible to write off a portion of the company’s losses on their personal tax returns.
  • Can I still be taxed as an S-corp if I’m a sole owner? Yes, the IRS allows single-member S-corps, as long as you follow the usual rules.

Examples:

• • After netting $250K profit last year, Helen paid herself a $150K salary and took $100K in distributions to save over $15K in employment taxes.
  • Ben’s CPA advised him to take at least 40% of his law firm’s profit as W2 wages to avoid the risk of the IRS reclassifying his S-corp distributions.
  • Maria used her $500/month health insurance premiums as a deductible S-corp expense and got a Section 105 plan to cover her family.
  • Karen hired her children to do admin work and funded Roth IRAs for them with the earned income, while deducting their pay and benefits on the corporate return.
  • Luis took a salary of only $30,000 despite his firm netting over $400,000, triggering an IRS audit and recharacterization of his distributions as taxable wages.

How to Proceed:

• • Meet with a CPA to determine an appropriate mix of salary vs. distributions based on your law firm’s profits, your personal billable hours and industry norms.
  • Pay yourself a set salary on a regular basis via W2 wages, withholding income taxes and FICA taxes as you would for any employee.
  • Take any remaining profit distributions on a quarterly or annual basis, as determined in consultation with your CPA and corporate counsel.
  • Establish a Section 105 medical reimbursement plan to enable the firm to cover your out-of-pocket health expenses with pre-tax dollars.
  • If you have family who can provide legitimate services, put them on payroll so you can shift income and pay for their health/retirement benefits.

FAQs:

• • What’s considered a “reasonable salary” for an S-corp owner? One that would be appropriate to pay a third party to perform the same services, based on experience, hours, revenue generation, etc.
  • Are S-corp shareholders required to remit estimated taxes each quarter on their pass-through income? Generally yes, both federal and state, or you may face underpayment penalties.
  • Can I still do an S-election if I pay myself solely via 1099? No, S-corps must pay owners who provide substantial services via W2 wages first and foremost.
  • Are home office costs a valid write-off on an S-corp’s business tax return?
    Yes, if you follow the strict rules, which include having a dedicated space used regularly and exclusively for business.
  • What’s the maximum amount an S-corp owner can put into their company retirement account each year? For 2024, you can make an employee deferral of up to $24,500 in a 401(k), plus the company can contribute up to 25% of your salary in profit sharing, for a total of $69,500.

Examples:

• • Anita saved thousands by deducting the cost of her malpractice insurance, bar dues, CLE fees, legal research subscriptions and practice management tools.
  • Paul converted a bedroom in his house to an office, measured the square footage, and deducted a proportional percentage of his mortgage interest and utilities.
  • In 2024, Kelly drove 5,000 business miles and wrote off $3,375 using the $0.675 per mile IRS rate. The following year, she deducted $3,425 for another 5,000 work miles driven, based on the 2025 mileage allowance of $0.685.
  • Whenever Mark traveled to an out-of-town legal conference or client meeting, he deducted 100% of his lodging and 50% of his meals.
  • Tina’s law firm contributed $45,000 to her cash balance pension plan and 401(k), saving the corporation over $10,000 in taxes at the 21% rate.

How to Proceed:

• • Keep detailed records throughout the year of all business operating costs, including rent, payroll, insurance, equipment, software, etc.
  • If you claim a home office, calculate the percentage used exclusively for business and allocate that portion of home expenses.
  • Track your mileage, tolls and parking costs for all business travel and log the purpose of each trip for substantiation.
  • Deduct registration fees, lodging and 50% of meals for business conferences, seminars and education events.
  • Talk to a retirement planning specialist about establishing a tax-advantaged savings plan for you and your employees.

FAQs:

• • Do I need receipts for all my business expenses? Yes, you should retain documentation for all costs over $75 and be able to justify any questioned write-offs.
  • Can I write off a portion of my home internet and mobile phone bills for business use, even if I also use them personally? You can write off the work-related portion of your phone and internet costs by calculating your monthly business use percentage.
  • Should I depreciate or expense my major assets? For 2024, you can write off up to $1,245,000 of equipment and furnishings purchases instead of depreciating them over time. In 2025, the expensing limit is set to decrease to $1,085,000 unless Congress extends the higher threshold.
  • How should I track my vehicle deductions? Keep a contemporaneous mileage log and/or use a GPS-based tracking app like TripLog or MileIQ.
  • Are my bar association dues tax deductible? Mandatory bar dues are deductible, but voluntary bar association dues may be only partly deductible as a business expense.

Questions: Business Entities & Taxation Basics

• • 1. Which of the following are potential benefits of forming a corporation for your law practice?
    • A) Limited personal liability protection
    • B) Tax savings opportunities
    • C) Perpetual business existence
    • D) All of the above
  • 2. How are C-corporations taxed under federal law?
    • A) Pass-through taxation on shareholders’ individual returns
    • B) Entity-level taxation on corporate profits
    • C) No corporate taxes, only individual capital gains
    • D) Shareholders can choose either pass-through or entity taxation
  • 3. How can an S-corporation help a law firm owner save on taxes?
    • A) Distributions are exempt from employment taxes
    • B) All income is taxed at the lower long-term capital gains rate
    • C) The corporation can deduct twice as much as other entities
    • D) A flat 15% corporate tax rate applies instead of graduated individual rates
  • 4. What are the main distinctions between C-corporations and S-corporations?
    

Answers: Business Entities & Taxation Basics

• • 1. D) Incorporating can provide liability protection, tax savings, perpetual existence and other benefits compared to sole proprietorships and partnerships.
  • 2. B) C-corps face entity-level taxation on profits at the corporate rate, plus shareholders pay tax on any dividends at the individual level.
  • 3. A) S-corp owners can save on employment taxes by taking a reasonable salary and additional distributions, which are not subject to FICA.
  • 4. D) C-corps have no limits on shareholders or stock classes but face double tax, while S-corps are limited to 100 shareholders and one stock class but get pass-through taxation.
  • 5. B) To be taxed as an S-corp, a corporation must submit IRS Form 2553 within 75 days of its tax year start.

Questions: Optimizing Your Law Firm’s Tax Strategy

• • 1. How should an S-corp law firm owner balance salary vs. distributions?
    • A) Take 100% of profits as tax-free distributions
    • B) Pay all profits as a salary to get the maximum deduction
    • C) Take a reasonable salary based on duties, hours and experience, plus additional distributions
    • D) Compensation method doesn’t matter as long as the total is under $100,000
  • 2. What’s a potential tax benefit of employing your spouse or children in your law practice?
    • A) You can take their salary as a deductible expense while keeping income in the family
    • B) Your spouse and kids don’t have to pay any income or employment taxes
    • C) The IRS allows you to double their actual wages as a bonus deduction
    • D) You get a $10,000 tax credit per family member on payroll
  • 3. Which of the following is NOT a requirement for claiming an office deduction?
    • A) The space must be used exclusively for your law practice
    • B) The area must be your main business location to qualify for the deduction.
    • C) The office must be in a commercial building, not a residence
    • D) You must use the actual expense method, not simplified square footage
  • 4. How much can an incorporated law firm deduct for business meals in 2024?
    • A) 0% – meals are no longer deductible
    • B) 50% of the cost for meals related to business activities
    • C) 100% for all meals under $100 per person
    • D) Meals are only deductible if they include a prospective client
  • 5. What’s the standard mileage deduction rate for business driving in 2024?
    • A) $0.625 per mile
    • B) $0.655 per mile
    • C) $0.675 per mile
    • D) $0.705 per mile

Answers: Optimizing Your Law Firm’s Tax Strategy

• • 1. C) S-corp owners should pay themselves a reasonable salary based on market rates and their actual duties, but can take remaining profits as distributions to save on employment taxes.
  • 2. A) Paying family members for legitimate work allows you to take a deduction for their salary while keeping income in a lower tax bracket. But their wages are still subject to income and payroll taxes.
  • 3. C) A home office can be deducted as long as it is used regularly and exclusively for business, regardless of whether it’s in a residence or commercial property. Both actual expenses and a simplified method are allowed.
  • 4. B) For 2024-25, law firms can write off half the cost of business meals that are not extravagant. The temporary 100% deduction for restaurant food and beverages ended in 2022.
  • 5. D) For 2024, the IRS allows a $0.675 per mile deduction for business driving, up from $0.655 in 2023. The rate is set to increase to $0.685 per mile in 2025, adjusting for projected inflation and vehicle cost changes.

Disclaimer

While incorporating and electing S-corporation status can provide valuable tax benefits for many law practices, determining the most advantageous entity structure for your business requires a personalized analysis.

Before making any decisions about your law firm’s legal structure or tax strategies, consult with an experienced business attorney and tax professional. They can review your unique circumstances and goals to recommend an approach that optimizes your tax position and minimizes your liability risks.