A loan out company, also known as a personal service corporation or personal service company, is a legal entity that is set up for the sole purpose of providing the services of an individual. In simpler terms, it is a company that is created to provide a way for individuals to offer their services to others without having to be hired as an employee. In this blog post, we will delve deeper into what loan out companies are, how they are created, what purpose they serve, and the pros and cons of forming one.
What are Loan Out Companies?
Loan out companies are created when an individual decides to offer their services as an independent contractor instead of being an employee. The individual then sets up a company, typically an S-Corporation, and the company becomes the independent contractor. The individual then becomes an employee of the company and offers their services through the company. The company then contracts with other individuals or entities to provide those services.
For example, a movie actor might set up a loan out company and offer their acting services through that company. The production company then contracts with the loan out company to hire the actor. The loan out company then pays the actor as an employee and deducts all the necessary taxes and expenses. The benefit of this arrangement is that the actor can take advantage of the tax benefits of being an independent contractor while still receiving the protections of being an employee.
Loan Out Companies and California's AB5
Under the State of California's law known as AB5, anyone providing services to another is presumed an employee unless the work involves services exempted from the law or the service provider can otherwise be shown to be an employee of another entity, and the provider's services are being "loaned out" to another entity. To fit this scenario, the loan-out entity receives payment for services provided to others and pays ts service provider (typically. the owner) a salary as its employee. By establishing a loan-out corporation, independent contractors become employees of their own company can potentially removing themselves from any AB5 issues making this an attractive option for independent contractors.
How are Loan Out Companies Created?
Setting up a loan out company is a relatively simple process. The first step is to decide on the legal structure of the company. Most loan out companies are set up as S-Corporations, as they provide the best tax benefits for small businesses. The next step is to register the company with the state and obtain any necessary licenses or permits. The company should also obtain an EIN (Employer Identification Number) from the IRS. Finally, the company should open a bank account and start keeping detailed records of all income and expenses.
What Purpose do Loan Out Companies Serve?
Loan out companies serve several purposes for individuals who offer their services as independent contractors. First and foremost, they offer tax benefits. As an employee, an individual is subject to income tax, Social Security tax, and Medicare tax. As an independent contractor, the individual is only subject to income tax and can deduct certain expenses, such as office space and equipment, travel expenses, and professional development expenses.
Secondly, loan out companies provide liability protection. If an individual offers their services as an independent contractor without a loan out company, they can be personally liable for any damages that occur. However, if they offer their services through a loan out company, the company assumes the liability and the individual is protected.
Finally, loan out companies offer flexibility. An individual can offer their services through the company while still maintaining the freedom to work on their own terms. They can choose which projects to take on, which clients to work with, and how much to charge.
Pros and Cons of Forming a Loan Out Company
Pros:
Tax Benefits - The biggest advantage of forming a loan out company is the tax benefits. As an independent contractor, an individual can deduct certain expenses, which can significantly reduce their tax liability.
Liability Protection - Loan out companies provide liability protection for the individual offering the services. If something goes wrong, the company assumes the liability, not the individual.
Flexibility - Loan out companies offer flexibility, allowing individuals to work on their own terms and choose which projects to take on.
Cons:
Cost - Forming a loan out company can be costly. There are legal fees, registration fees, and ongoing accounting fees that need to be paid.
Administration - Running a loan out company requires ongoing administration, including keeping detailed records of income and expenses and complying with tax laws.
Additional Taxes - While loan out companies offer tax benefits, they also come with additional taxes that need to be paid. For example, the company may be subject to state and federal corporate income taxes, as well as employment taxes such as Social Security and Medicare taxes.
Increased Complexity - Running a loan out company can be more complex than simply offering services as an independent contractor. There are additional legal and regulatory requirements that need to be met, as well as ongoing record-keeping and compliance responsibilities.
Conclusion
In summary, a loan out company is a legal entity that individuals can set up to offer their services as independent contractors. They offer tax benefits, liability protection, and flexibility, but also come with costs, additional taxes, administration, and increased complexity. Ultimately, whether or not to form a loan out company depends on the individual's specific circumstances and needs. It is important to consult with a lawyer, accountant, or financial advisor before making any decisions about forming a loan out company.
Spiller Law is an advisor to startup businesses, artists, and media companies. Feel free to schedule a free consultation.
Spiller Law is a San Francisco business and entertainment law firm. We serve clients in the San Francisco Bay Area, Silicon Valley, Los Angeles, and California. Feel free to arrange a free consultation using the Schedule Appointment link on our website. For other questions, feel free to call our offices at 415-991-7298.
The information provided in this article is for general informational purposes only and should not be construed as legal advice or opinion. Readers are advised to consult with their legal counsel for specific advice.