This is an issue about which I am admittedly very biased. Last year, the city of Lakewood placed a measure on the November ballot that imposed a city tax on profits derived from ownership of a subchapter "S" corporation. An "S" corporation is very much like a regular "C" corporation (e.g. Microsoft). Both strive, on behalf of their shareholders, to earn profits that exceed their expenses. The only significant differences are that “S†corporations are small and privately owned, and they are not “double-taxed†at the federal level. I am a part owner of a software company that is incorporated subchapter “Sâ€Â.
The city stated (by my recollection) that this tax would raise about $50,000 a year for Lakewood. Lakewood voters passed the tax overwhelmingly, undoubtedly because this tax didn't directly affect most voters (aka "Don't tax you, don't tax me, tax that man behind the tree").
I feel this tax is capricious, unfair, and counter-productive. I don't understand why I must pay a city tax on profits earned by my company, yet my neighbors don't likewise pay city taxes on the profits earned by the companies they own, i.e. their shares of publicly-traded companies like Microsoft, or their shares of privately-owned “C†corporations.
FYI, none of the suburbs surrounding Lakewood (now) impose a city tax on "S" corp profits. Not Rocky River, not Bay Village, not Westlake, not Fairview Park, not Avon, not Avon Lake, etc. They may someday pass such a tax, who knows. But if they resist, they would seem to have an advantage in attracting small business owners to live there. With Lakewood property taxes already much higher than these surrounding communities, do we really need to create another disincentive for small business owners to live in Lakewood?
What do you think?
Lakewood's Unfair Tax on Small Business Owners???
Moderator: Jim O'Bryan
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Tim Liston
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Jim O'Bryan
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Re: Lakewood's Unfair Tax on Small Business Owners???
Tim Liston wrote:...The city stated (by my recollection) that this tax would raise about $50,000 a year for Lakewood. Lakewood voters passed the tax overwhelmingly, undoubtedly because this tax didn't directly affect most voters (aka "Don't tax you, don't tax me, tax that man behind the tree")....
Tim
First of all I think you hit the nail on the head as to why it was passed. However I am not sure it is as unfair as you said. I am working with three groups including the Chamber of Commerce to bring many home businesses online and give them a voice. 50% of the people I run with work out of their homes, or have small businesses.
I will be looking forward to what some have to say, thought I think we have already let the bath water out. So to speak.
Thanks for joining and posting.
Jim
Jim O'Bryan
Lakewood Resident
"The very act of observing disturbs the system."
Werner Heisenberg
"If anything I've said seems useful to you, I'm glad.
If not, don't worry. Just forget about it."
His Holiness The Dalai Lama
Lakewood Resident
"The very act of observing disturbs the system."
Werner Heisenberg
"If anything I've said seems useful to you, I'm glad.
If not, don't worry. Just forget about it."
His Holiness The Dalai Lama
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Jason Stewart
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Tim,
Your title of "Lakewood's Unfair Tax on Small Business Owners" is a bit misleading. Subchapter S corporations are not necessarily small businesses. The only limits of S corporations is the number of shareholders, which is set at 100 (I believe). There are no limits on the actual size of the organization.
I feel like I must first provide a brief explanation of the benefits of electing to become an S corporation for the rest of the forum. S corporations, as Tim stated eliminate the "double taxing" at the federal level. Essentially the profits of the corporation flow to the owners individual tax returns, much like that of a sole proprietorship or partnership. S corporations also provides for limited liability to the owners like that of a normal C corporation. So essentially, S corporations are getting the best of both worlds.
Now to address your post, I can't say why dividend income is not taxed at the local level. Is this "unfair"? Possibly. However, in using the same logic, are not sole proprietors and partnerships "unfairly" taxed as well? If you feel that you shouldn't have to pay taxes on the profits of your company, why should the sole proprietor or the partners (whose profits flow directly to their individual returns) have to pay local income taxes?
I also believe that issue 43 was not a new tax, it was merely a continuation of a tax that was already in place. (I could be wrong)
Your title of "Lakewood's Unfair Tax on Small Business Owners" is a bit misleading. Subchapter S corporations are not necessarily small businesses. The only limits of S corporations is the number of shareholders, which is set at 100 (I believe). There are no limits on the actual size of the organization.
I feel like I must first provide a brief explanation of the benefits of electing to become an S corporation for the rest of the forum. S corporations, as Tim stated eliminate the "double taxing" at the federal level. Essentially the profits of the corporation flow to the owners individual tax returns, much like that of a sole proprietorship or partnership. S corporations also provides for limited liability to the owners like that of a normal C corporation. So essentially, S corporations are getting the best of both worlds.
Now to address your post, I can't say why dividend income is not taxed at the local level. Is this "unfair"? Possibly. However, in using the same logic, are not sole proprietors and partnerships "unfairly" taxed as well? If you feel that you shouldn't have to pay taxes on the profits of your company, why should the sole proprietor or the partners (whose profits flow directly to their individual returns) have to pay local income taxes?
I also believe that issue 43 was not a new tax, it was merely a continuation of a tax that was already in place. (I could be wrong)
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Bill Call
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All Rita municipalities tax Sub Chapter S income. You list that income in schedule J.
It is not unfair to tax sub s income because your share of the income is your money. You are taxed on the profit for federal purposes wether or not you actually take the cash from the s corp. When you take the cash you are not taxed on the income. You can pay rent, go on vacation or buy groceries etc.
If you are a Doctor who is a sub s who grosses $300,000 per year with expenses of $200,000 your net income is $100,000. If you pay yourself wages of $50,000 that leaves you $50,000 in sub chapter S income. You are personally taxed on that sub chapter s income by State, Federal and Local governments whether or not you withdraw any money. When you withdraw that $50,000 at some future date (take the cash) you are not taxed.
If sub chapter s income is not taxed then everyone would simply form a sub chapter s corp and avoid all local income taxes.
If you think Rita does not tax sub chapter s income call them at 440-526-0900. Use an assumed name because if your not paying city income tax on sub-chapter s income the will want their money.
It is not unfair to tax sub s income because your share of the income is your money. You are taxed on the profit for federal purposes wether or not you actually take the cash from the s corp. When you take the cash you are not taxed on the income. You can pay rent, go on vacation or buy groceries etc.
If you are a Doctor who is a sub s who grosses $300,000 per year with expenses of $200,000 your net income is $100,000. If you pay yourself wages of $50,000 that leaves you $50,000 in sub chapter S income. You are personally taxed on that sub chapter s income by State, Federal and Local governments whether or not you withdraw any money. When you withdraw that $50,000 at some future date (take the cash) you are not taxed.
If sub chapter s income is not taxed then everyone would simply form a sub chapter s corp and avoid all local income taxes.
If you think Rita does not tax sub chapter s income call them at 440-526-0900. Use an assumed name because if your not paying city income tax on sub-chapter s income the will want their money.
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Tim Liston
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Bill – I think you are confused between the taxation of the “S†corp as a corporate entity and taxing the shareholders’ income as to where they live. Middleburg Heights, where my company is located, has always taxed the income generated by my company at their rate of 1.75% (and they also tax my salary at that rate). I am not an accountant, but my understanding is that for tax year 2003, it somehow became possible for Lakewood to also tax “S†corp income (again in addition to my salary) simply because I live there. Then for whatever reason the Ohio Supreme Court ruled that municipalities could continue to tax their residents’ “S†corp income only with voter approval. Not surprisingly, Lakewood overwhelmingly approved this tax last November and I (and a relative handful of other Lakewood residents) became “the man behind the treeâ€Â.
Bill, do you think I would post here under my own name if I wanted to evade the tax? Early this year I wrote a check to RITA for $4,209.93 to pay the Lakewood tax on my “S†corp earnings for tax years 2003 and 2004. Again, I also paid tax to Lakewood on the salary paid to me by my company. I go back to one of my assertions. This tax creates a significant disincentive to live in Lakewood. Had I lived in ANY of the surrounding suburbs, that $4,209.93 would be helping me restore my home, or putting my children through college. I really don’t want to disclose such specifics but I also want to underscore the extent to which this new tax can motivate some business owners to live somewhere other than Lakewood.
Also you raise a point I wanted to make previously. Lakewood’s brand new tax on “S†corp income is just that, a tax on “S†corp income. Not Tim Liston’s income. That $4,209.93 is money THAT I DON’T HAVE because it is needed to grow my company. When you have to borrow to pay taxes, that really hurts.
You also say that without the city tax on “S†corp income one could “simply†form an “S†corp and avoid city taxes on wages. It’s not so simple. To incorporate you have to file articles of incorporation and by-laws with the State. You have to hold annual and periodic shareholders’ meetings, annual and periodic officers’ meetings, and prepare detailed minutes of all the proceedings. You have to document all significant corporate events. And more. All this involves lawyers. As a tax avoidance strategy this would not be cost effective.
Jason – You ask, â€Âif you feel that you shouldn't have to pay taxes on the profits of your “S†corp, why should the sole proprietor or the partners have to pay local income taxes?
Here’s why. I suspect that it is absolutely necessary to tax the income generated by proprietorships and partnerships because many (most?) are very small and do not pay any W-2 salaries to their owners. Were it not for the city tax on proprietorship/partnership income, such individuals could live in Lakewood for free! But my company is much larger than the typical proprietorship/partnership and pays me a substantial salary, on which I pay city taxes. Then Lakewood goes on to tax the earnings generated by my company, something that it does not impose on owners of “C†corporations (like my neighbors’ who own mutual funds).
“S†corps closely resemble “C†corps and bear little resemblance to proprietorships/partnerships. Lakewood taxes the earnings of “S†corps, before these earnings are even received by the shareholders. But at no time does Lakewood tax the earnings of “C†corps, not when they are earned and not when their shareholders receive these earnings in the form of dividends.
Jason, Lakewood must tax proprietorship/partnership earnings. Otherwise it might receive nothing at all. But it does not have to tax “S†corp earnings and it just seems to me that once I have paid taxes on a substantial salary, that Lakewood should tax the earnings of my “S†corp the way it taxes earnings my neighbor’s make on their mutual funds. Which is to say not at all. I believe this is exactly what Rocky River does. Rocky River does not tax “S†corp earnings if the shareholder is paying city taxes on a reasonable salary. Rocky River is giving me $4,209 good reasons to live there instead of in Lakewood - last year, this year, next year, in 2007, etc.
Bill, do you think I would post here under my own name if I wanted to evade the tax? Early this year I wrote a check to RITA for $4,209.93 to pay the Lakewood tax on my “S†corp earnings for tax years 2003 and 2004. Again, I also paid tax to Lakewood on the salary paid to me by my company. I go back to one of my assertions. This tax creates a significant disincentive to live in Lakewood. Had I lived in ANY of the surrounding suburbs, that $4,209.93 would be helping me restore my home, or putting my children through college. I really don’t want to disclose such specifics but I also want to underscore the extent to which this new tax can motivate some business owners to live somewhere other than Lakewood.
Also you raise a point I wanted to make previously. Lakewood’s brand new tax on “S†corp income is just that, a tax on “S†corp income. Not Tim Liston’s income. That $4,209.93 is money THAT I DON’T HAVE because it is needed to grow my company. When you have to borrow to pay taxes, that really hurts.
You also say that without the city tax on “S†corp income one could “simply†form an “S†corp and avoid city taxes on wages. It’s not so simple. To incorporate you have to file articles of incorporation and by-laws with the State. You have to hold annual and periodic shareholders’ meetings, annual and periodic officers’ meetings, and prepare detailed minutes of all the proceedings. You have to document all significant corporate events. And more. All this involves lawyers. As a tax avoidance strategy this would not be cost effective.
Jason – You ask, â€Âif you feel that you shouldn't have to pay taxes on the profits of your “S†corp, why should the sole proprietor or the partners have to pay local income taxes?
Here’s why. I suspect that it is absolutely necessary to tax the income generated by proprietorships and partnerships because many (most?) are very small and do not pay any W-2 salaries to their owners. Were it not for the city tax on proprietorship/partnership income, such individuals could live in Lakewood for free! But my company is much larger than the typical proprietorship/partnership and pays me a substantial salary, on which I pay city taxes. Then Lakewood goes on to tax the earnings generated by my company, something that it does not impose on owners of “C†corporations (like my neighbors’ who own mutual funds).
“S†corps closely resemble “C†corps and bear little resemblance to proprietorships/partnerships. Lakewood taxes the earnings of “S†corps, before these earnings are even received by the shareholders. But at no time does Lakewood tax the earnings of “C†corps, not when they are earned and not when their shareholders receive these earnings in the form of dividends.
Jason, Lakewood must tax proprietorship/partnership earnings. Otherwise it might receive nothing at all. But it does not have to tax “S†corp earnings and it just seems to me that once I have paid taxes on a substantial salary, that Lakewood should tax the earnings of my “S†corp the way it taxes earnings my neighbor’s make on their mutual funds. Which is to say not at all. I believe this is exactly what Rocky River does. Rocky River does not tax “S†corp earnings if the shareholder is paying city taxes on a reasonable salary. Rocky River is giving me $4,209 good reasons to live there instead of in Lakewood - last year, this year, next year, in 2007, etc.
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Bill Call
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Tim, I was just joking about using your real name. I have a dry sense of humor.
I agree that Lakewood has a non-competitive tax structure and I sympathize with your plight. I own a C corp and and S corp so I understand your frustration.
Lakewood and other cities always taxed Sub S income. The Supreme court simply required the City to get voter approval. The vote simply restored the status quo.
I have a Sub S corp located in Cleveland so I know that the corp is taxed in its home city and that the owners are taxed for their portion of the income in their resident city. That is no different than earning w-2 income in Cleveland and paying income taxes to Cleveland and Lakewood.
I don't think that the city allows you to take a credit for income tax paid on
your S corp income. That seems unfair since you are allowed to take a credit for individual income taxes paid to other cities. If that is the case it is reasonable to expect the same credit.
If someone has rental property in Lakewood and lives in Rocky River they pay (or should pay) income tax to Lakewood and Rocky River. Why should Sub S income be treated differently?
If someone living in Rocky River reports income on schedule C for a business that is located in Lakewood they are required to pay income tax to Lakewood and Rocky River. Why should Sub S income be treated differently?
If I earn income in Cleveland but live in Lakewood I must pay income tax to Cleveland and Lakewood. Why should Sub S income be treated differently?
You are right about c corps. If I own 100% of the stock in a C corp I don't pay individual income taxes because legally it is not my money.
If I own 100% of the stock in a S corp I DO pay individual income taxes on that money because legally its is MY money.
The Federal government created S corps to provide some tax advantages to small businesses. The down side is that all income passes directly to the owners even if they do not actually receive the money.
If the S corp status is a burden you can always change to a C corp.
It doesn't cost a lot of money and it doesn't require an attorney.
Lakewood needs intelligent, successful, hard working people like you so maybe the law should be changed.
I am not sure it would be fair to others to make sub s income tax exempt from Lakewood City income tax but it might be a small price to pay to keep high income people in Lakewood.
The City probably wastes $50,000 per week so I am not sure the money collected should be the issue.
I agree that Lakewood has a non-competitive tax structure and I sympathize with your plight. I own a C corp and and S corp so I understand your frustration.
Lakewood and other cities always taxed Sub S income. The Supreme court simply required the City to get voter approval. The vote simply restored the status quo.
I have a Sub S corp located in Cleveland so I know that the corp is taxed in its home city and that the owners are taxed for their portion of the income in their resident city. That is no different than earning w-2 income in Cleveland and paying income taxes to Cleveland and Lakewood.
I don't think that the city allows you to take a credit for income tax paid on
your S corp income. That seems unfair since you are allowed to take a credit for individual income taxes paid to other cities. If that is the case it is reasonable to expect the same credit.
If someone has rental property in Lakewood and lives in Rocky River they pay (or should pay) income tax to Lakewood and Rocky River. Why should Sub S income be treated differently?
If someone living in Rocky River reports income on schedule C for a business that is located in Lakewood they are required to pay income tax to Lakewood and Rocky River. Why should Sub S income be treated differently?
If I earn income in Cleveland but live in Lakewood I must pay income tax to Cleveland and Lakewood. Why should Sub S income be treated differently?
You are right about c corps. If I own 100% of the stock in a C corp I don't pay individual income taxes because legally it is not my money.
If I own 100% of the stock in a S corp I DO pay individual income taxes on that money because legally its is MY money.
The Federal government created S corps to provide some tax advantages to small businesses. The down side is that all income passes directly to the owners even if they do not actually receive the money.
If the S corp status is a burden you can always change to a C corp.
It doesn't cost a lot of money and it doesn't require an attorney.
Lakewood needs intelligent, successful, hard working people like you so maybe the law should be changed.
I am not sure it would be fair to others to make sub s income tax exempt from Lakewood City income tax but it might be a small price to pay to keep high income people in Lakewood.
The City probably wastes $50,000 per week so I am not sure the money collected should be the issue.