Jane Shay operates a management consulting business. The business has been successful and now produces a taxable income of $65,000 per year after all "ordinary and necessary" expenses and depreciation have been deducted. At present the business is operated as a proprietorship; that is, Jane pays personal federal income tax on the entire $65,000. For tax purposes, it is as if she had a job that pays her a $65,000 salary per year.
As an alternative, Jane is considering incorporating the business. If she does, she will pay herself a salary of $22,000 a year from the corporation. The corporation will then pay taxes on the remaining $43,000 and retain the balance of the money as a corporate asset. Thus Jane's two alternatives are to operate the business as a proprietorship or as a corporation. Jane is single and has $2500 of itemized personal deductions. Which alternative will result in a smaller total payment of taxes to the government? (Answer: Incorporation, $8280 versus $11,736)