Choosing the right business structure for practicing as a licensed clinical social worker in California can feel like a maze of complex legal language and intricate financial terminology. The decision between operating as a Sole Proprietorship vs Professional Licensed Clinical Social Worker Corporation in California affects many aspects of a licensed clinical social worker practice, from the extent to which personal assets are exposed to risk via personal liability as a licensed clinical social worker in California to post-tax earnings based upon how the business entity selected is taxed.

This article seeks to provide an understandable explanation of the personal and professional liability differences and clarify the tax differences to simplify the decision-making process for licensed clinical social workers in California deciding between a California Sole Proprietorship or a California Professional Licensed Clinical Social Worker Corporation when selecting a business entity for their licensed clinical social worker practice.

Executive Summary: Putting the Conclusion First for Busy Licensed Clinical Social Workers

Operating a licensed clinical social worker practice as a Sole Proprietorship in California is only a reasonable choice for professionals who do not expect significant net income, do not have (or plan to have) either professional or non-professional employees, and who are not concerned with personal liability or protecting their personal assets.

A California Professional Licensed Clinical Social Worker Corporation electing taxation as an S Corporation is the California business entity of choice for licensed clinical social workers who want to reduce their tax liabilities while limiting their personal liability and protecting their personal assets to the maximum extent possible in California.

While providing equivalent personal liability protection and protection of personal assets, a California Professional Licensed Clinical Social Worker Corporation taxed as a personal service corporation should only be used by a licensed clinical social worker upon the specific advice of a trusted tax advisor, as they are often less tax efficient than a California Professional Licensed Clinical Social Worker Corporation electing taxation as an S Corporation.

For a comprehensive, personalized approach to selecting and forming your California Professional Licensed Clinical Social Worker Corporation, trust the experienced corporate attorneys at San Diego Corporate Law. Our team has the expertise to guide you through every step of the process, ensuring your California Professional Licensed Clinical Social Worker Corporation is structured to provide maximum asset protection and tax efficiency. Contact us today for a consultation.

An Introduction to Sole Proprietorships vs Professional Licensed Clinical Social Worker Corporations in California

What is a Sole Proprietorship in California?

For a licensed clinical social worker, a Sole Proprietorship in California is a straightforward and uncomplicated business structure where the business and the licensed clinical social worker owner are considered to be the same. In this structure, the licensed clinical social worker owner reports business income and expenses on their personal tax return and is responsible for paying self-employment taxes. However, this structure does not provide any personal liability protection or personal asset protection, meaning the personal assets of the licensed clinical social worker owner could be seized to satisfy any of the debts, liabilities, obligations, or legal judgments against the licensed clinical social worker practice.

There are minimal paperwork and regulatory requirements to start a Sole Proprietorship, and there are no filings to be made with the California Secretary of State to create or maintain a California Sole Proprietorship.

However, the simplicity and ease of setting up a Sole Proprietorship must be balanced against a lack of personal asset protection and potential for tax inefficiency before choosing a California Sole Proprietorship for rendering licensed clinical social worker services in California.

What is a Professional Corporation in California?

A Professional Corporation in California is a specialized type of corporation for the following professions:

Accounting (See California Business & Professions Code Sections 5150-5158)

Acupuncture (See California Business & Professions Code Sections 4975-4979)

Architecture (See California Business & Professions Code Sections 5610-5610.7)

Audiology (See California Business & Professions Code Sections 2536-2537.5)

Chiropractic (See California Business & Professions Code Sections 1050-1058)

Clinical Social Work (See California Business & Professions Code Sections 4998-4998.5)

Dentistry (See California Business & Professions Code Sections 1800-1808)

Dental Hygienists in Alternative Practice (See California Business & Professions Code Sections 1967-1967.4)

Law (See California Business & Professions Code Sections 6127.5, 6160-6172)

Marriage and Family Therapy (See California Business & Professions Code Sections 4987.5-4988.2)

Medicine (See California Business & Professions Code Sections 2400-2417)

Midwifery (See California Business & Professions Code Sections 2505-2523)

Naturopathic Doctors (See California Business & Professions Code Sections 3670-3675)

Nursing (See California Business & Professions Code Sections 2775-2781)

Occupational Therapy (See California Business & Professions Code Section 2572)

Optometry (See California Business & Professions Code Sections 3160-3167)

Osteopathy (See California Business & Professions Code Sections 2402-2417, 3600)

Pharmacy (See California Business & Professions Code Sections 4150-4156)

Physical Therapy (See California Business & Professions Code Sections 2690-2696)

Physician Assistants (See California Business & Professions Code Sections 3540-3545)

Podiatry (See California Business & Professions Code Sections 2402-2417)

Professional Clinical Counselor (See California Business & Professions Code Sections 4999.123-4999.129)

Psychology (See California Business & Professions Code Sections 2907-2907.5, 2995-2999)

Shorthand Court Reporters (See California Business & Professions Code Sections 8040-8047)

Speech-Language Pathology (See California Business & Professions Code Section 2537.5)

Veterinary (See California Business & Professions Code Sections 4910-4917)

A California Professional Licensed Clinical Social Worker Corporation, therefore, is a California Professional Corporation specific to the practice of licensed clinical social workers.

A California Professional Licensed Clinical Social Worker Corporation is a separate legal entity from its professional owners, providing some degree of personal asset protection. This means that the personal assets of the licensed clinical social worker owner are typically shielded from claims against the corporation. However, licensed clinical social workers are still personally liable for their own malpractice or professional misconduct, which liability cannot be shielded by any business entity in California.

Forming a California Professional Licensed Clinical Social Worker Corporation involves more paperwork and ongoing regulatory requirements than a Sole Proprietorship, mostly in the form of initial and annual filings with the California Secretary of State, however, despite the complexity of formation and operation, the benefits of limited liability and potential tax efficiency make California Professional Licensed Clinical Social Worker Corporations an attractive choice for many licensed clinical social workers in California.

May a California Limited Liability Company (LLC) Be Used for a Licensed Clinical Social Worker Practice?

Neither a foreign nor a California limited liability company (LLC) may be used to render professional services in California. This comes as a surprise to many licensed professionals, as professional limited liability companies (PLLCs) are commonly used to render professional services in other states. However, California Corporations Code Section 17701.04(e) answers the question clearly regarding the use of a foreign or California LLC as a business entity for licensed professionals in California:

“Nothing in this title shall be construed to permit a domestic or foreign limited liability company to render professional services, as defined in subdivision (a) of Section 13401 and in Section 13401.3, in this state.”

May a Registered Limited Liability Partnership (LLP) Be Used for a Licensed Clinical Social Worker Practice in California?

A Registered Limited Liability Partnership (LLP) may be utilized for certain licensed professionals in California for rendering professional services in professional practices. However, this is only applicable to specific professions such as lawyers, architects, or accountants, but is not an option for licensed clinical social workers in California.

May General Stock (Non-Professional) California Corporations or General Stock (Non-Professional) California S-Corps Be Used for a Licensed Clinical Social Worker Practice in California?

Non-Professional California Corporations and Non-Professional California S-Corps are Generally Not Permitted

General stock (non-professional) California Corporations or general stock (non-professional) California S-Corps typically cannot be used for rendering licensed clinical social worker services in California.

Do Not Confuse the Prohibitions Against a California S-Corp for a Licensed Clinical Social Worker Practice with a California Professional Licensed Clinical Social Worker Corporation Electing Taxation as an S Corporation

It is important to not confuse the difference between S Corporation taxation under Subchapter S of the Internal Revenue Code and a California S-Corp, which refers to a general stock (non-professional) California Corporation electing to be taxed in accordance with Subchapter S of the Internal Revenue Code. While a general stock (non-professional) California Corporation electing to be taxed in accordance with Subchapter S of the Internal Revenue Code can generally not render professional services, a California Professional Licensed Clinical Social Worker Corporation may elect to be taxed in accordance with Subchapter S of the Internal Revenue Code, which is sometimes referred to as a California Professional S-Corp.

Personal Liability in Sole Proprietorships vs Professional Licensed Clinical Social Worker Corporations in California

In this section, we delve into the comparison of personal liability aspects between Sole Proprietorships and Professional Licensed Clinical Social Worker Corporations in California. We will discuss how these two types of business entities handle personal liability for business debts and malpractice claims, which is crucial for licensed clinical social workers who are considering which legal structure to choose for their practice.

Personal Liability in a Sole Proprietorship in California

In this section, we will explore the concept of personal liability as it pertains to Sole Proprietorships in California. Particularly, we will shed light on the potential risks and implications for licensed clinical social worker owners with respect to personal liability generally and professional liability, as both directly influence the risk to personal assets and financial security for a licensed clinical social worker owner of a California Sole Proprietorship engaged in a licensed clinical social worker practice.

Personal Liability in a Sole Proprietorship Generally

In a California Sole Proprietorship, the licensed clinical social worker owner bears unlimited personal liability for all debts, liabilities, obligations, and legal judgments associated with the licensed clinical social worker practice. California law does not distinguish between the licensed clinical social worker owner and the business; they are considered to be the same. This means that if the licensed clinical social worker practice incurs debt or faces a lawsuit, the personal assets of the licensed clinical social worker owner (such as their home, vehicles, investments, or personal savings) can be used to settle the debts, liabilities, obligations, or legal judgments against the licensed clinical social worker practice. The risk associated with this personal liability should be a significant consideration for licensed clinical social workers.

Personal Liability in a Sole Proprietorship with Employees

In a Sole Proprietorship, personal liability extends to the actions of employees as well. The legal principle of respondeat superior (better known as vicarious liability) applies. This means that the licensed clinical social worker owner, as the employer, is held responsible for the actions of their employees performed within the course of their work duties.

For example, if an employee of a Sole Proprietorship in California makes a professional error or omission that leads to a lawsuit, the Sole Proprietor licensed clinical social worker owner may find their personal assets at risk in the ensuing legal proceedings. This risk amplifies based on the number of employees and the nature of the licensed clinical social worker services rendered.

Obtaining adequate insurance coverage can help mitigate the risk to the personal assets of the Sole Proprietor licensed clinical social worker owner, however, that mitigation only extends to the limited liability protection of insurable risks and insurance policy limits.

Employment Practices Liability in a Sole Proprietorship with Employees

Employment practices liability is a significant concern for Sole Proprietorships with employees. This type of liability arises from claims made by employees alleging wrongful treatment. The scope of wrongful treatment may be discrimination (based on sex, race, age, disability, etc.), wrongful termination, harassment, retaliation, as well as countless other employment-related issues.

In the context of a Sole Proprietorship, the licensed clinical social worker owner may be held personally liable for any of these claims. Because the law does not distinguish between the licensed clinical social worker owner and the business entity in a Sole Proprietorship, any employment practices liability claim could potentially lead to a direct impact on the personal assets of the licensed clinical social worker owner.

Any licensed clinical social worker business owner, including Sole Proprietors, should consider securing employment practices liability insurance, a type of coverage that can help protect businesses against potential claims by workers, however, such coverage can be cost-prohibitive for a small business and the protection only extends to the limited liability protection of insurable risks and insurance policy limits.

Personal Liability in a Sole Proprietorship Used for Licensed Clinical Social Worker Services in California

Licensed clinical social workers operating as Sole Proprietors are not exempt from personal liability for any malpractice claims or other legal issues related to their licensed clinical social worker services. In the State of California, licensed clinical social workers may carry professional liability insurance, also known as errors and omissions insurance or malpractice insurance, to protect against such claims. However, in a Sole Proprietorship structure, the personal assets of the licensed clinical social worker owner are still at risk if the professional liability insurance coverage is not sufficient to cover all lawsuits or damages.

Personal Liability in a Professional Licensed Clinical Social Worker Corporation in California

This section focuses on the role of personal liability within the structure of a Professional Licensed Clinical Social Worker Corporation in California to explore the extent to which personal assets may be shielded from personal liability to provide an overview of the protective measures offered by California Professional Licensed Clinical Social Worker Corporations.

Personal Liability in a Professional Licensed Clinical Social Worker Corporation Generally

In a Professional Licensed Clinical Social Worker Corporation in California, personal liability is generally limited, which is one of the primary reasons licensed clinical social workers may opt for this structure. A California Professional Licensed Clinical Social Worker Corporation is legally separate from its owners, known as shareholders, thereby offering a protective barrier for personal assets. This means that if the California Professional Licensed Clinical Social Worker Corporation incurs debts or is sued, typically, the personal assets of the shareholder (such as their home, vehicles, investments, or personal savings) are not at risk.

It is important to note, however, that this liability protection is not absolute. shareholders can still be held personally responsible in certain situations, such as if they provide a personal guaranty for a business loan or commercial lease, if they directly injure someone, or if they engage in fraudulent or reckless behavior.

To maintain this liability protection, the California Professional Licensed Clinical Social Worker Corporation must adhere to certain formalities and regulations that are not required of Sole Proprietors. It is of the utmost importance for California Professional Licensed Clinical Social Worker Corporations to meet these obligations to fully benefit from the limited liability protection offered by a Professional Corporation structure.

Personal Liability in a Professional Licensed Clinical Social Worker Corporation with Employees

Just as with Sole Proprietorships, a Professional Licensed Clinical Social Worker Corporation in California also extends its liability to the actions of its employees. The principle of respondeat superior (vicarious liability) holds true in this scenario. This means that the corporation is responsible for the actions of its employees performed in the course of their employment. For example, suppose there is a lawsuit because a third party is injured by an employee driving during the course of their employment, the California Professional Licensed Clinical Social Worker Corporation might be held responsible as well as the employee who was at fault for the accident.

However, unlike a Sole Proprietorship, the personal assets of the shareholder are generally shielded from liability. The California Professional Licensed Clinical Social Worker Corporation is viewed as a separate legal entity, so any lawsuits or debts incurred by the California Professional Licensed Clinical Social Worker Corporation do not typically extend to the personal assets of the shareholder. This protection is one of the key benefits that distinguish a California Professional Licensed Clinical Social Worker Corporation from a Sole Proprietorship.

Nevertheless, this protection is not all-inclusive. In certain situations, such as a direct injury caused by a shareholder (for instance, in the example above, if the shareholder was at fault for an accident while driving during the course of their employment) or if fraudulent or reckless behavior is exhibited, a shareholder can still be held personally responsible.

As with any business, obtaining appropriate insurance coverage can help mitigate risks associated with employee actions, and the protection provided by this insurance still only extends to the limited liability protection of insurable risks and insurance policy limits, but to the extent that such insurance provides incomplete coverage, it should be the business assets of the California Professional Licensed Clinical Social Worker Corporation and not the assets of the shareholder at risk, which is a tremendous advantage over the lack of liability protection in a California Sole Proprietorship.

Employment Practices Liability in a Professional Licensed Clinical Social Worker Corporation with Employees

Within a California Professional Licensed Clinical Social Worker Corporation, employment practices liability relates to claims arising from the employment process. A significant portion of employment practices liability issues revolve around misconduct such as discrimination (based on sex, race, age, disability, etc.), wrongful termination, sexual harassment, and retaliation.

In a California Professional Licensed Clinical Social Worker Corporation, this liability extends to the actions of its employees under the principle of respondeat superior or vicarious liability. If an employee of the California Professional Licensed Clinical Social Worker Corporation engages in an act that results in a lawsuit, the California Professional Licensed Clinical Social Worker Corporation could be held responsible for the actions of its employee, but the personal assets of the shareholder are typically protected.

However, this protection is not always absolute. Situations where direct injury caused by the action or inaction of a shareholder, or fraudulent or reckless behavior, can still result in personal liability for a shareholder.

Employment practices liability insurance may be used to mitigate this risk, but to the extent that the limited liability protection of insurable risks and insurance policy limits do not cover the liability, it should be the business assets of the California Professional Licensed Clinical Social Worker Corporation and not the assets of the shareholder at risk, which is a giant leap in protection compared to a California Sole Proprietorship.

Personal Liability in a Professional Licensed Clinical Social Worker Corporation Used for Licensed Clinical Social Worker Services in California

A California Professional Licensed Clinical Social Worker Corporation shields the personal assets of its shareholder(s) from the debts, liabilities, obligations, and legal judgments against the California Professional Licensed Clinical Social Worker Corporation, including the professional negligence, errors and omissions, or malpractice of other professionals practicing in the California Professional Licensed Clinical Social Worker Corporation, but this protection does not extend to the personal assets of a licensed clinical social worker shareholder for their own professional negligence, errors and omissions, or malpractice.

If a licensed clinical social worker shareholder is accused of professional negligence, an error or omission, or malpractice in the course of providing licensed clinical social worker services, their personal assets may be at risk and the licensed clinical social worker shareholder would be personally liable for their own actions.

To minimize the risk of personal liability, licensed clinical social workers practicing within a California Professional Licensed Clinical Social Worker Corporation should consider obtaining professional liability insurance (also known as malpractice insurance), which can help cover the cost of claims made due to errors or negligence in the provision of licensed clinical social worker services. While the extent of the limited liability protection is limited to insurable risks and insurance policy limits, it should be the business assets of the California Professional Licensed Clinical Social Worker Corporation and the licensed clinical social worker committing the act of professional negligence, errors and omissions, or malpractice at risk and not the shareholder unless the licensed clinical social worker shareholder is at fault, which can be a critical protection in licensed clinical social worker practices with more than one licensed clinical social worker rendering licensed clinical social worker services compared to a California Sole Proprietorship.

Taxation of Sole Proprietorships vs Professional Licensed Clinical Social Worker Corporations in California

In this section, we will compare and contrast the tax obligations for Sole Proprietorships and Professional Licensed Clinical Social Worker Corporations in California. Understanding the taxation landscape is important for licensed clinical social workers as it directly impacts their personal income and overall financial health. We will explore the tax implications for each structure, including income tax, self-employment tax, and potential tax advantages, to provide a comprehensive view of how these business entities are taxed in the State of California.

Taxation of a Sole Proprietorship in California

In a Sole Proprietorship, the licensed clinical social worker owner is taxed individually on all net income derived from the business. As a Sole Proprietorship does not constitute a separate legal entity, all profits and losses are reported directly on the personal income tax returns of the licensed clinical social worker owner. In this section, we will delve into the intricacies of tax obligations for Sole Proprietors in California, discussing aspects such as income tax and self-employment tax pertinent to this business structure.

Federal Income Taxation of a Sole Proprietorship in California

A Sole Proprietor in California is subject to federal income tax on the net profit of their business earnings. This net profit is reported on Schedule C (Profit or Loss from Business) of the individual Internal Revenue Service Form 1040 tax return.

The federal income tax rate for Sole Proprietors is based on individual income tax rates, which are progressive. At the time of this writing, these rates range from 10% to 37%, depending on income level. These rates are applied to all taxable income, which is total income minus each applicable income tax deduction and exemption.

Sole Proprietors can also deduct business expenses related to their trade or business from their gross income. This includes costs such as office rent, utilities, equipment, advertising, and employee salaries. Additionally, the Internal Revenue Service allows Sole Proprietors to deduct health insurance premiums, half of their self-employment tax (which tax will be discussed in the next section), and contributions to retirement plans.

The federal income tax system in the United States operates on a pay-as-you-go basis, meaning that a Sole Proprietor is required to make estimated tax payments quarterly if they expect to owe at least $1,000 in federal tax for the year after subtracting withholding and refundable credits. These quarterly estimated payments cover not only federal income tax liability but also self-employment tax and alternative minimum tax obligations.

Federal Self-Employment Taxation of a Sole Proprietorship in California

Sole Proprietors in California are subject to federal self-employment tax on their business income. This tax encompasses both the Social Security and Medicare taxes for individuals who work for themselves. The current self-employment tax rate is 15.3%, with 12.4% going towards Social Security and 2.9% towards Medicare.

One of the unique aspects of the self-employment tax is that the Social Security component is only levied up to a limit that generally increases annually (on the first $160,200 of income for the 2023 tax year), whereas the Medicare component applies to all self-employment income. Additionally, if the net earnings of a Sole Proprietor exceed $200,000 for an individual or $250,000 for joint filers, there is an additional 0.9% Medicare tax.

So, for example, a licensed clinical social worker practicing as a Sole Proprietor may expect to pay the following amounts in self-employment tax in addition to their federal and state income tax liabilities:

$ 20,000 Net Income x 15.3% = $3,060 Self-Employment Tax

$ 40,000 Net Income x 15.3% = $6,120 Self-Employment Tax

$ 60,000 Net Income x 15.3% = $9,180 Self-Employment Tax

$ 80,000 Net Income x 15.3% = $12,240 Self-Employment Tax

$100,000 Net Income x 15.3% = $15,300 Self-Employment Tax

$120,000 Net Income x 15.3% = $18,360 Self-Employment Tax

$140,000 Net Income x 15.3% = $21,420 Self-Employment Tax

$160,000 Net Income x 15.3% = $24,480 Self-Employment Tax

These self-employment tax calculations will assume greater significance later in our discussion when we delve into the self-employment tax considerations for California Professional Licensed Clinical Social Worker Corporations, as they will be a critical comparison point for understanding the distinct tax implications of choosing a California Professional Licensed Clinical Social Worker Corporation over a Sole Proprietorship.

California Income Taxation of a Sole Proprietorship in California

Just like federal income tax, a Sole Proprietor in California is subject to state income tax on the net profit of their business earnings. This income is reported on the California Franchise Tax Board Form 540 California Resident Income Tax Return. The state income tax rate for Sole Proprietors is based on individual income tax rates, which are progressive. At the time of this writing, personal income tax rates in California range from 1% to 13.3%, depending on the level of income.

Sole Proprietors can deduct business expenses from their gross income on their California state tax return, similar to their federal tax return. These deductions may include office rent, utilities, equipment, advertising expenses, and employee salaries.

It is also essential to take into consideration that California does not have a standard deduction or personal exemption for individual taxpayers, unlike federal taxes. However, it does offer other credits and deductions based on specific individual circumstances.

Similar to federal taxes, Sole Proprietors are required to make estimated tax payments quarterly if they expect to owe at least $500 in tax for the year (after withholding and credits). These payments cover state income tax and any alternative minimum tax obligations.

Federal Alternative Minimum Tax for a Sole Proprietorship in California

The Federal Alternative Minimum Tax (AMT) represents a parallel tax system to the regular federal income tax in the United States. It is aimed at ensuring that individuals and corporations with substantial income cannot avoid paying a fair share of taxes through deductions and credits. Sole Proprietors in California, like Sole Proprietors elsewhere in the United States, may be subject to this tax.

The AMT calculation begins with regular taxable income and then requires the addition and subtraction of various adjustments and preferences, leading to an Alternative Minimum Taxable Income (AMTI). The AMT exemption is then subtracted from the AMTI, and the result is multiplied by the AMT tax rates of 26% or 28% to arrive at the tentative minimum tax. If the tentative minimum tax is higher than the regular tax, the difference is paid as AMT.

For Sole Proprietors, certain types of deductions that are allowable under the regular tax system could be disallowed or reduced under the AMT system, potentially resulting in a higher tax liability. Some common AMT preference items that affect Sole Proprietors include depreciation, certain medical and dental expenses, and state and local taxes.

However, the AMT system also provides an exemption amount which is designed to prevent taxpayers with income below a certain level from being subject to the AMT. This exemption amount is set annually by the Internal Revenue Service and is phased out for taxpayers at higher income levels.

As with federal income tax, Sole Proprietors are required to make estimated quarterly tax payments to cover potential AMT obligations, which should be accounted for in their ongoing tax planning.

California Alternative Minimum Tax for a Sole Proprietorship in California

Just like its federal counterpart, the California Alternative Minimum Tax (AMT) is a parallel tax system designed to ensure that taxpayers, including Sole Proprietors, pay at least a minimum amount of tax. It targets those who may otherwise be able to lower their tax obligations through various credits and deductions. The AMT system requires the computation of taxable income with the consideration of certain adjustments and tax preference items.

For Sole Proprietors, the California AMT calculation begins with regular taxable income, with certain additions and subtractions, leading to Alternative Minimum Taxable Income (AMTI). The AMT exemption is then subtracted from the AMTI, and the result is multiplied by the AMT tax rate, currently set at 7% for individuals, to arrive at the tentative minimum tax. If the tentative minimum tax is higher than the regular tax, the difference is paid as AMT.

Certain types of deductions that are allowable under the regular tax system could be disallowed or reduced under the California AMT system, potentially resulting in a higher tax liability for Sole Proprietors. Some common state AMT preference items include long-term contracts, depletion, and pollution control facilities.

Additionally, the California AMT provides an exemption amount designed to prevent taxpayers with income below a specific level from being subject to the AMT. However, this exemption amount is phased out for taxpayers with higher income levels. As part of their ongoing tax planning, Sole Proprietors should be aware of their potential AMT obligations and make corresponding estimated quarterly tax payments.

Taxation of a Professional Corporation Taxed as an S Corporation in California

In contrast to Sole Proprietorships, a California Professional Licensed Clinical Social Worker Corporation that elects S Corporation tax status has a different taxation structure. This section will examine the specific tax implications and obligations for a California Professional Licensed Clinical Social Worker Corporation that is taxed as an S Corporation. We will explore the distinct state and federal income tax treatments, discuss employment tax benefits, and offer a comparison with the taxation of Sole Proprietorships detailed in the previous sections.

Federal Income Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California

For a California Professional Licensed Clinical Social Worker Corporation that elects S Corporation tax status at the federal level, the income tax treatment differs significantly from that of Sole Proprietorships.

A California Professional Licensed Clinical Social Worker Corporation taxed as an S Corporation does not pay income taxes at the corporate level under the federal rules. Instead, it operates as a pass-through entity where the income, deductions, and credits pass through to shareholders. Each shareholder then reports their share of the net income or net loss of the California Professional Licensed Clinical Social Worker Corporation taxed as an S Corporation on their individual tax returns, according to their percentage ownership of the California Professional Licensed Clinical Social Worker Corporation shares and at their individual income tax rates (the same rates discussed for Sole Proprietors in the Federal Income Taxation of a Sole Proprietorship in California section, above). For federal income tax purposes, and negating income tax deductions from the payment of employment taxes, the federal income tax paid by a Sole Proprietor and a shareholder of a California Professional Licensed Clinical Social Worker Corporation electing to be taxed as an S Corporation are equivalent.

Restrictions on shareholders of a California Professional Licensed Clinical Social Worker Corporation electing to be taxed as an S Corporation are in place to maintain its status as an S Corporation. A California Professional Corporation taxed as an S Corporation is limited to one hundred shareholders. These shareholders must be United States citizens or permanent residents of the United States. Further, other corporations, partnerships, and certain trusts cannot own shares in a California Professional Licensed Clinical Social Worker Corporation taxed as an S Corporation. There can only be one class of stock, meaning that all shareholders have the same rights to profits and assets. Finally, there are professional restrictions on who may be a shareholder of a California Professional Licensed Clinical Social Worker Corporation, as discussed in this other article.

Despite the restrictions, S Corporation taxation is often the preferred choice for most California Professional Licensed Clinical Social Worker Corporations and their shareholders. This preference is primarily due to the beneficial tax implications.

Federal Self-Employment Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California

California Professional Licensed Clinical Social Worker Corporations are not subject to self-employment taxes. Yes, you read that correctly. Read that again if necessary.

One of the major advantages of a California Professional Licensed Clinical Social Worker Corporation electing to be taxed as an S Corporation is the ability to eliminate self-employment taxes. This is because shareholders who are also employees of the corporation are required to pay themselves a reasonable salary, which is subject to standard employment taxes, but not self-employment taxes.

The term “reasonable salary” is not explicitly defined by the IRS, but guidelines suggest it should reflect the market rate for similar services provided in the industry. This salary is considered an expense for the California Professional Licensed Clinical Social Worker Corporation and is, therefore, deducted from its income.

The employer and employee contributions to standard employment taxes is the same 15.3% as self-employment taxes paid by Sole Proprietors, but the benefit of replacing self-employment taxes with standard employment taxes paid only on a reasonable salary to a licensed clinical social worker shareholder who is also an employee of the California Professional Licensed Clinical Social Worker Corporation is that any remaining income of the corporation, after the payment of reasonable salary, can be distributed to the shareholders without being subjected to self-employment taxes. This could mean significant tax savings for shareholders of a California Professional Licensed Clinical Social Worker Corporation taxed as an S Corporation.

There are a few different methods of determining what is a reasonable salary, and these should be discussed with a tax advisor. However, drawing upon the self-employment tax calculations provided in the Federal Self-Employment Taxation of a Sole Proprietorship in California section, above, see the following table and compare the savings between the self-employment tax of a Sole Proprietorship and the standard employment tax of a California Professional Licensed Clinical Social Worker Corporation electing taxation as an S Corporation:

$12,000 Reasonable Salary on $20,000 Net Income x 15.3% = $1,836 Standard Employment Tax (Savings of $1,224 Compared to Self-Employment Tax)

$24,000 Reasonable Salary on $40,000 Net Income x 15.3% = $3,672 Standard Employment Tax (Savings of $2,448 Compared to Self-Employment Tax)

$36,000 Reasonable Salary on $60,000 Net Income x 15.3% = $5,508 Standard Employment Tax (Savings of $3,672 Compared to Self-Employment Tax)

$48,000 Reasonable Salary on $80,000 Net Income x 15.3% = $7,344 Standard Employment Tax (Savings of $4,896 Compared to Self-Employment Tax)

$60,000 Reasonable Salary on $100,000 Net Income x 15.3% = $9,180 Standard Employment Tax (Savings of $6,120 Compared to Self-Employment Tax)

$60,000 Reasonable Salary on $120,000 Net Income x 15.3% = $9,180 Standard Employment Tax (Savings of $9,180 Compared to Self-Employment Tax)

$60,000 Reasonable Salary on $140,000 Net Income x 15.3% = $9,180 Standard Employment Tax (Savings of $12,240 Compared to Self-Employment Tax)

$60,000 Reasonable Salary on $160,000 Net Income x 15.3% = $9,180 Standard Employment Tax (Savings of $15,300 Compared to Self-Employment Tax)

A tax advisor should be consulted regarding setting a reasonable salary, although for many licensed clinical social workers, $60,000 could be deemed a reasonable salary.

The 0.9% Additional Medicare Tax still applies under standard employment taxes; however, this is another way in which a California Professional Licensed Clinical Social Worker Corporation taxed as an S Corporation can be advantageous. By setting a reasonable salary for licensed clinical social worker shareholder-employees, it is possible to keep their income below the income thresholds that trigger the Additional Medicare Tax.

California Income Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California

Income from an S Corporation in California is passed through to the shareholder(s) who then reports it on their individual income tax returns. This is similar to the federal treatment, with the income being taxed at the individual California income tax rates, ranging from 1% to 13.3%, depending on the income bracket.

California Professional Licensed Clinical Social Worker Corporations electing S Corporation taxation are also subject to a 1.5% franchise tax on their net profit, with a minimum tax of $800 annually paid to the California Franchise Tax Board. This tax is payable regardless of whether the corporation is active, inactive, operates at a loss, or files a return for a short period of less than 12 months.

For California income tax purposes, and negating income tax deductions from the payment of employment taxes, the federal income tax paid by a Sole Proprietor and a shareholder of a California Professional Licensed Clinical Social Worker Corporation electing to be taxed as an S Corporation are equivalent. The additional franchise tax of 1.5% subject to a $800 should be weighed against the savings created by standard employment taxes on the salary of a licensed clinical social worker shareholder employed by a California Professional Licensed Clinical Social Worker Corporation and their expected net income and reasonable salary.

Federal Alternative Minimum Tax for a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California

There is no federal Alternative Minimum Tax (AMT) for California Professional Licensed Clinical Social Worker Corporations electing to be taxed as S Corporations.

California Alternative Minimum Tax for a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California

There is no California Alternative Minimum Tax (AMT) for California Professional Licensed Clinical Social Worker Corporations electing to be taxed as S Corporations.

Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as a Personal Service Corporation in California

Unlike a Sole Proprietorship or California Professional Licensed Clinical Social Worker Corporation electing to be taxed as an S Corporation, a California Professional Licensed Clinical Social Worker Corporation taxed as a personal service has its own distinct tax implications and obligations. A California Professional Licensed Clinical Social Worker Corporation does not elect taxation as a personal service corporation, rather it merely fails to timely file an election to be taxed as an S Corporation and defaults to personal service corporation taxation. This section delves into the nuances of state and federal income tax treatments for California Professional Licensed Clinical Social Worker Corporations taxed as personal service corporations, potential Alternative Minimum Tax (AMT) implications, and how these aspects compare to the taxation systems of Sole Proprietorships and California Professional Licensed Clinical Social Worker Corporations taxed as S Corporations discussed earlier.

Federal Income Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as a Personal Service Corporation in California

A California Professional Licensed Clinical Social Worker Corporation taxed as a personal service corporation under federal law has historically been subjected to a flat 35% federal income tax rate on taxable income.

However, with the enactment of the Tax Cuts and Jobs Act in December 2017, the federal corporate tax rate, including for those taxed as personal service corporations, was reduced to a flat 21% for tax years beginning after December 31, 2017. This tax reduction was a significant relief to many California Professional Licensed Clinical Social Worker Corporations taxed as personal service corporations, aligning their tax treatment more closely with non-professional corporate entities.

The 21% tax rate is set to sunset (expire) on December 31, 2025, as per the provisions of the Tax Cuts and Jobs Act, unless renewed or revised by the government before that time. After this sunset date, the tax rate for California Professional Licensed Clinical Social Worker Corporations taxed as personal service corporations could revert back to the 35% rate, or an alternate rate as determined by the government. Future tax legislation is speculative and subject to change.

Dividends refer to the distributed earnings of a California Professional Licensed Clinical Social Worker Corporation taxed as a personal service corporation that are passed on to its shareholders after taxation in the California Professional Licensed Clinical Social Worker Corporation at either the historical 35% or current 21% federal income tax rate.

Federal dividend tax rates vary based on whether the dividends are considered “qualified” or “nonqualified”. Qualified dividends are taxed at the capital gains tax rate, which can be 0%, 15%, or 20%, depending on the taxable income of the shareholder. Nonqualified dividends, also known as ordinary dividends, are taxed at the regular federal income tax rate, which can range from 10% to 37%.

This taxation at both the California Professional Licensed Clinical Social Worker Corporation level and again on dividends at the shareholder level is referred to as double taxation, and double taxation is one of the main drawbacks of personal service corporation status for California Professional Licensed Clinical Social Worker Corporations (in addition to the possible return to the historical 35% flat tax rate!).

Federal Self-Employment Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as a Personal Service Corporation in California

Just as with California Professional Licensed Clinical Social Worker Corporations electing to be taxed as S Corporations, California Professional Licensed Clinical Social Worker Corporations taxed as personal service corporations are not subject to self-employment taxation. Refer to the section titled Federal Self-Employment Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California, above, for an explanation of standard employment taxes as compared to self-employment taxes paid by Sole Proprietors.

Additional Medicare Tax for a Professional Corporation Taxed as a Personal Service Corporation in California

Just as with California Professional Licensed Clinical Social Worker Corporations electing to be taxed as S Corporations, shareholders of California Professional Licensed Clinical Social Worker Corporations taxed as personal service corporations may manage their exposure to Additional Medicare Taxes by setting their reasonable salary to avoid the threshold for payment of Additional Medicare Taxes. Refer to the section titled Federal Self-Employment Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as an S Corporation in California, above, for an explanation of Additional Medicare Taxes.

California Income Taxation of a Professional Licensed Clinical Social Worker Corporation Taxed as a Personal Service Corporation in California

A California Professional Licensed Clinical Social Worker Corporation taxed as a personal service corporation is subject to California state income tax. The rate of taxation is determined by the net income of the California Professional Licensed Clinical Social Worker Corporation. As per the California Revenue and Taxation Code, Professional Corporations in California are taxed at a flat rate of 8.84% on the net income with a minimum tax of $800 annually paid to the California Franchise Tax Board. This tax is payable regardless of whether the corporation is active, inactive, operates at a loss, or files a return for a short period of less than 12 months.

Dividends distributed to shareholders, similar to federal taxes, are also subject to tax at the individual level in California. This means that after corporate-level taxation, any distributed income to the shareholders of the California Professional Licensed Clinical Social Worker Corporation taxed as a personal service corporation is also taxable. This applies to dividends distributed by a California Professional Licensed Clinical Social Worker Corporation taxed as a personal service corporation after they have been taxed at the corporate level. These dividends are included in the overall taxable income of the shareholder and are taxed according to their state tax rate. This form of taxation leads to a double taxation issue at the state level, similar to the one at the federal level. The specific tax rate will vary based on the income bracket of the shareholder, but it can range from 1% to 13.3%, the highest state income tax rate in the country. It is important to remember that this is an additional tax on top of federal taxes on dividends.

Federal Alternative Minimum Tax for a Professional Licensed Clinical Social Worker Corporation Taxed as a Personal Service Corporation in California

The federal Alternative Minimum Tax (AMT) is a supplemental income tax imposed by the United States federal government in addition to baseline income tax for certain individuals, corporations, estates, and trusts that have exemptions or special circumstances allowing for lower payments of standard income tax. AMT is aimed to ensure that certain taxpayers pay a minimum amount of tax. A Professional Licensed Clinical Social Worker Corporation Taxed as a personal service corporation in California could potentially be subject to this tax. The AMT calculation takes into account an assortment of tax preferences that might reduce regular tax liability below a specified level. While the AMT rate is generally lower than the regular tax rate, it applies to a broader income base. Consequently, a taxpayer could end up owing more tax under the AMT system than under the regular tax system.

California Alternative Minimum Tax for a Professional Licensed Clinical Social Worker Corporation Taxed as a Personal Service Corporation in California

The California Alternative Minimum Tax (AMT) functions similarly to the federal AMT. It is a supplemental income tax designed to ensure that certain taxpayers, including Professional Licensed Clinical Social Worker Corporations taxed as personal service corporations, pay a minimum amount of state income tax. This tax applies when tax preferences, deductions, or credits significantly reduce regular California income tax liability. The rate for California AMT is 7% for California Professional Licensed Clinical Social Worker Corporations but can vary depending on specific circumstances. Like the federal AMT, the California AMT has a wider income base, meaning it could potentially result in a higher tax liability than the regular tax system.