S-Corp vs. Sole Proprietorship: Which One is Best for You?

If you're self-employed or running a small business, you’ve probably heard whispers (or shouts) about switching to an S Corporation. But is it the right move for you?

Let’s walk through how S-Corp taxation compares to a sole proprietorship, when it makes sense to consider making the switch, and how to optimize your tax strategy along the way—including leveraging the Qualified Business Income (QBI) deduction.

Sole Proprietor vs. S-Corp: The Big Picture

Sole Proprietorship is the default structure when you start a business. Simple setup, minimal paperwork, and all income flows through to your personal return (Schedule C). But that simplicity comes at a cost—especially in taxes.

S-Corporation status isn’t an entity type but a tax election. You still operate as an LLC or corporation but elect to be taxed as an S-Corp. This unlocks opportunities for tax savings—especially as your profits grow.

Here’s how they stack up:

Feature	Sole Proprietorship	S-Corporation
Setup	Easiest, default option	Must file IRS Form 2553
Self-Employment Tax	Paid on 100% of profit	Only on “reasonable salary”
Income Reporting	Schedule C (Form 1040)	Salary on W-2, remainder on K-1
QBI Deduction Eligibility	Yes	Yes
Payroll Required	No	Yes
Ongoing Compliance	Minimal	More complex (payroll, filings)

Why S-Corps Can Save You Money on Taxes

The key benefit of an S-Corp? Reducing your self-employment taxes.

As a sole proprietor, 100% of your business profit is subject to 15.3% self-employment tax (Social Security + Medicare). With an S-Corp, only the salary you pay yourself is subject to payroll taxes. The remaining profits—paid out as distributions—avoid that 15.3% tax.

Example:

• Your business earns $150,000 in net income.

• As a sole prop: All $150K is subject to SE tax = ~$22,950.

• As an S-Corp: Pay yourself $80K salary (taxed), distribute $70K (not subject to SE tax).

  • Payroll tax on $80K = ~$12,240.

  • You save ~$10,710.

The higher your profit, the more potential for tax savings.

The QBI Deduction: Not Just a Flat 20%

Most business owners have heard they can deduct up to 20% of their business income via the Qualified Business Income (QBI) deduction—and it’s true for both sole proprietors and S-Corps.

However, once your taxable income exceeds:

• $198,200 (single) or

• $396,200 (married filing jointly)

…then the QBI deduction becomes limited by wages and/or depreciable assets.

The 50% W-2 Wages Rule

If you're above the income threshold and don’t have significant depreciable assets, your QBI deduction is capped at the lesser of 20% of QBI or 50% of W-2 wages paid by the business.

That means your S-Corp salary (W-2 wages) plays a strategic role in how much of the QBI deduction you can actually claim.

Quick rule of thumb: Start with a W-2 salary equal to 2/7ths of your total profit. This generally aligns the W-2 to meet QBI deduction limits without overpaying payroll taxes.

Example:

• $140,000 in total S-Corp profit

• 2/7 = ~$40,000 W-2 salary

• Remaining $100K as distributions

• 50% of W-2 = $20K → likely qualifies you for a $20K QBI deduction

Work with your tax advisor to model this accurately.

When Does It Make Sense to Elect S-Corp Status?

There's no one-size-fits-all number, but once you’re consistently netting $50,000–$80,000+ in profit per year, it’s time to seriously consider an S-Corp. That’s when the tax savings typically outweigh the extra costs and complexity.

Other Advanced Tax Planning Strategies for S-Corp Owners

As your income grows, you open the door to advanced strategies like:

▸ Cash Balance & Defined Benefit Plans

These plans can allow you to defer $100K–$300K+ per year, drastically reducing current taxes and accelerating retirement savings.

▸ Private investments & Depreciation

▸ Pass Through Entity Tax to Avoid SALT Cap

▸ Accountable Plans

Reimburse yourself tax-free for business expenses like home office, internet, and mileage. Clean documentation is key, but this is a straightforward way to extract more value.

When Staying a Sole Prop Might Still Be Smart

S-Corps are powerful, but not always necessary. You might want to stay a sole proprietor if:

• Your profits are below ~$50K

• You buy an investment property

• You’re not ready to run payroll or increase compliance

• You have losses or inconsistent income years

• You’re testing out a new side hustle or business model

Final Thought: Your Business Entity Should Evolve With You

Choosing between a sole proprietorship and S-Corp isn’t just about paperwork. It’s about structuring your income and taxes to support your growth, goals, and long-term wealth.

If you’ve outgrown the basics of being a sole prop, it’s time to evaluate whether an S-Corp—and strategic planning around it—can help you keep more of what you earn.

At Wealthbound, we help entrepreneurs and professionals build tax-smart financial plans that evolve with their income and ambition.

Curious if an S-Corp is right for you?

Let’s run the numbers together, schedule a free consultation here

Disclaimer: This blog is for educational purposes only and does not constitute financial advice. Please consult with your advisor, tax professional, or mortgage lender before making a major purchase decision.