When NOT to elect S-corp: the list the seminars skip
The short answer
We set up S-corps constantly — and we talk clients out of them almost as often. The election is wrong when profit is low or volatile, when the business holds appreciating real estate, when state costs (California's 1.5% franchise tax and payroll overhead) erode the savings, when the salary's hit to the QBI deduction outweighs the payroll-tax win, and when future investors or reorganizations will demand a different structure. If someone recommended an S-corp before asking your profit and your state, they recommended a product, not a plan.
The honest disqualifier list
- Profit under ~$60k or bouncing around: compliance costs are fixed; savings aren't.
- Rentals and appreciating property: rentals don't owe SE tax (no problem to solve), and property is painful to extract from an S-corp later.
- California and similar states: the 1.5%/$800-minimum franchise tax plus payroll costs move the breakeven up — run the state math, not the YouTube math.
- QBI-sensitive incomes: your own W-2 shrinks the 20% deduction; sometimes the net is a wash or worse.
- Outside investors on the horizon: S-corp shareholder restrictions (one class of stock, eligibility rules) collide with venture money and complex cap tables.
- Owners who won't run payroll properly: a neglected S-corp — no reasonable salary, no filings — is worse than no election at all.
Frequently asked questions
What's the profit level where an S-corp stops making sense?
There's no single line, but below roughly $60,000 of consistent net profit, payroll costs, tax prep for the 1120-S, and state fees frequently eat the savings. The election should be earned by the math, not the calendar.
Why is real estate inside an S-corp a problem?
Appreciated property is hard to get out of an S-corp without triggering gain — unlike a partnership or direct ownership. Rentals also don't pay self-employment tax anyway, so the election solves a problem rentals don't have.
Does California change the math?
Yes — the 1.5% S-corp franchise tax on net income (minimum $800) and payroll costs raise the breakeven meaningfully for California businesses.
I elected too early. Can I undo it?
Elections can be revoked, with a five-year wait before re-electing. Sometimes riding it out is better than revoking — that's a numbers conversation, not a rule.
Not sure if you're on the list?
Bring your numbers. If the election helps, we'll set it up; if it doesn't, we'll tell you that for free in the consultation — that's the whole point of it.
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