When you operate your business as a pass-through entity—an S corporation, partnership or limited liability company (LLC)—income and expenses are “passed through” to you on your personal tax return. The audit rate for those entities is lower than the rate for sole proprietors
Tax bonus: A change in the form of business ownership can further reduce your audit exposure.
How so? Typically, a sole proprietor will claim a home-office deduction on Schedule C.
Also, you must attach Form 8829 to the return. That can trigger a closer look from the IRS.
On the other hand, sole proprietors who switch to a one-person S corp setup don’t claim the home-office deduction on Schedule C. Instead, the corporation can reimburse them through an accountable plan. The reimbursement is tax-free to the employee and deductible by the corporation. Form 8829 isn’t filed.
Of course, numerous other pros and cons present themselves in this situation.
Use Form 2553 to make the election.
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