Most physicians select their business entity structure when they first open their practice, typically on the advice of whatever attorney or accountant they happened to know at the time. That initial choice then persists for years, sometimes decades, without review. The problem is that the right entity structure depends on variables that change over time: your income level, your state of residence, your retirement timeline, your plans for bringing on partners, and whether you might eventually sell to a larger group or private equity.
This is not a theoretical exercise. The difference between the right and wrong entity structure for a physician earning $400,000 or more is typically $10,000 to $40,000 per year in unnecessary taxes. Over a twenty-year career, that compounds into hundreds of thousands of dollars.
The Baseline: How Each Entity Is Taxed
Before comparing structures, you need to understand the fundamental tax mechanics of each option.
Sole Proprietorship and Single-Member LLC (disregarded entity). All practice income flows to your personal return on Schedule C. You pay income tax at your marginal rate (currently up to 37% federal) plus self-employment tax of 15.3% on the first $168,600 of net earnings (2024 threshold) and 2.9% Medicare tax on all earnings above that. For a physician netting $400,000, the self-employment tax alone is roughly $31,400. There is no separation between you and the business for tax purposes.
S-Corporation. Practice income is split into two components: a reasonable salary paid to you as an employee (subject to payroll taxes) and the remaining profit distributed to you as an S-Corp distribution (subject to income tax but not self-employment tax). The IRS requires that the salary be "reasonable" for the work performed, but the distribution portion avoids the 2.9% Medicare tax and the 0.9% Additional Medicare Tax that applies above $200,000 in wages for single filers ($250,000 for married filing jointly).
C-Corporation. The practice pays corporate income tax at 21% on its profits. When those after-tax profits are distributed to you as dividends, you pay tax again at the qualified dividend rate of 20% (plus the 3.8% net investment income tax for high earners). This double taxation is why C-Corps are generally disfavored for professional service businesses. However, C-Corps offer fringe benefits and retirement planning advantages that can change the math for certain physicians.
Multi-Member LLC taxed as a partnership. If you have partners, an LLC taxed as a partnership provides maximum flexibility in allocating income, losses, and specific deductions among members. Each member pays self-employment tax on their share of practice income unless structurally the members are treated as limited partners (which is complex and requires careful legal structuring for service businesses).
The S-Corp Advantage: Running the Numbers
Let us walk through the math for a physician with $400,000 in net practice income, comparing a single-member LLC (taxed as a sole proprietorship) against an S-Corp election.
Scenario: Single-Member LLC. The full $400,000 is subject to self-employment tax. The calculation: 92.35% of $400,000 equals $369,400 of taxable self-employment income. On the first $168,600, you pay 15.3% ($25,796). On the remaining $200,800, you pay 2.9% Medicare ($5,823). If your total Medicare wages exceed $200,000 (single filer), you also pay the 0.9% Additional Medicare Tax on the excess. Total self-employment tax: approximately $33,420. You do get to deduct half of self-employment tax on your 1040, but the cash outflow is still $33,420.
Scenario: S-Corp with $200,000 Reasonable Salary. You pay yourself a W-2 salary of $200,000. The employer share of payroll taxes on that salary is $10,530 (6.2% Social Security on $168,600 cap, plus 1.45% Medicare on the full $200,000). You as the employee pay the same $10,530. The remaining $200,000 comes to you as an S-Corp distribution, subject to income tax but not payroll or self-employment tax. Your total payroll tax burden: approximately $21,060 (employer plus employee shares). You also avoid the 0.9% Additional Medicare Tax on the distribution portion, saving an additional $1,800 if you are a single filer. Total savings versus the LLC: approximately $7,650 per year in Medicare tax alone.
The reasonable salary question is where physicians get into trouble. The IRS scrutinizes S-Corp owners who pay themselves artificially low salaries to maximize distributions. For a physician in private practice, "reasonable" typically means what an employed physician in the same specialty and market would earn. If you are a dermatologist in a major metro area and employed derms earn $350,000 to $450,000, you cannot pay yourself $150,000 and call it reasonable. A defensible approach for a $400,000 practice is setting salary at 50-60% of net income, supported by compensation surveys from MGMA, AMGA, or your specialty society. The salary should reflect what the practice would have to pay a replacement physician to do the same work.
When C-Corp Structure Makes Sense
The conventional wisdom that C-Corps are always wrong for physicians is too simplistic. There are specific scenarios where C-Corp taxation creates advantages that can exceed the cost of double taxation.
Tax-free health insurance and medical reimbursement. A C-Corp can deduct 100% of health insurance premiums and medical expenses paid on behalf of employee-shareholders. For a physician with a family plan costing $30,000 per year plus $10,000 in out-of-pocket medical expenses, that is $40,000 in deductible corporate expenses that reduce taxable corporate income at 21%, saving $8,400 at the corporate level. In an S-Corp, the shareholder-employee's health insurance premiums are included in W-2 income and then deducted on the personal return, which provides less net benefit when state taxes are factored in.
Defined benefit pension plans. C-Corps offer the most flexibility for defined benefit plans, which allow much higher annual contributions than 401(k) plans. A physician aged 55 with fifteen years of high income can shelter $200,000 or more per year through a defined benefit plan. The contribution is a deductible corporate expense, reducing taxable corporate income at 21%. The funds grow tax-deferred. For a physician planning to retire in ten years, the tax deferral and deduction can be worth $40,000-$60,000 annually, far exceeding the double taxation cost.
Fiscal year flexibility. C-Corps can choose any fiscal year-end, enabling income-shifting strategies between the corporate and personal tax years. S-Corps and sole proprietorships must use a calendar year-end (with limited exceptions).
The break-even analysis depends heavily on how much income you retain in the corporation versus distribute. If you leave $100,000 in the C-Corp earning 21% tax and reinvest it in the practice, you pay $21,000 in corporate tax. If you distributed that same $100,000 from an S-Corp, you would pay up to $37,000 in federal income tax (at the top marginal rate) plus state tax. The C-Corp deferral advantage is $16,000 or more on that $100,000. The catch is that the tax eventually comes due when you distribute the earnings or liquidate the corporation, but the time value of deferral is significant over a ten to fifteen year period.
Pass-Through Entity Tax Elections: The SALT Workaround
The Tax Cuts and Jobs Act of 2017 capped the state and local tax (SALT) deduction at $10,000 for individuals. For a physician in California paying $40,000 or more in state income tax, that cap costs $10,000+ in additional federal tax.
Most high-tax states have now enacted pass-through entity (PTE) tax elections that allow S-Corps, partnerships, and multi-member LLCs to pay state income tax at the entity level. This entity-level tax payment is fully deductible against federal income, effectively circumventing the $10,000 SALT cap.
California allows an elective PTE tax at 9.3% of qualified net income. For a physician with $400,000 in S-Corp income, the PTE tax is $37,200. That full $37,200 is deductible on the federal return, reducing federal taxable income. At a 37% federal marginal rate, the federal tax savings are approximately $13,764. Without the PTE election, only $10,000 of state taxes would be deductible, and the federal tax savings on state taxes would be limited to $3,700. The net benefit of the PTE election: approximately $10,064 per year.
New York has a similar program with rates ranging from 6.85% to 10.9%. New Jersey imposes the PTE tax at a flat 9.12% and provides a corresponding credit. Connecticut was the pioneer and mandates the PTE tax for most pass-through entities. In every case, the mechanics are slightly different, but the principle is the same: pay state tax at the entity level, deduct it federally, and receive a personal credit for the entity-level tax paid.
The critical point for entity selection is that PTE elections are only available to pass-through entities. If your practice is a C-Corp, you cannot make this election. This is a significant reason why physicians in high-tax states should think carefully before converting to C-Corp status, even if the fringe benefit advantages are appealing.
Retirement Plan Optimization by Entity Type
Your entity structure directly determines which retirement plan strategies are available and how much you can shelter.
Solo 401(k) with S-Corp. You can contribute up to $23,000 as an employee deferral (2024 limit, $30,500 if over 50) plus 25% of your W-2 salary as an employer profit-sharing contribution. On a $200,000 salary, the employer contribution maxes at $50,000. Total potential contribution: $73,000 (or $80,500 if over 50). The catch is that your employer contribution is limited by your W-2 salary, not your total S-Corp income. Setting your salary too low to save payroll taxes can backfire by limiting your retirement contributions.
Defined Benefit Plan with C-Corp. As noted above, the annual contribution limit for a defined benefit plan is actuarially determined based on age, target benefit, and years to retirement. A 50-year-old physician targeting a $275,000 annual pension at age 65 could contribute $180,000-$220,000 per year, all deductible at the corporate level. Combined with a 401(k), total annual tax-deferred savings can exceed $250,000. This is the most powerful retirement accumulation strategy available to high-income physicians.
SEP-IRA limitations. SEP-IRAs allow contributions of up to 25% of net self-employment income (for sole proprietors) or 25% of W-2 salary (for S-Corp shareholders). The simplicity is appealing, but the contribution limits are lower than a Solo 401(k) with profit sharing, and SEP-IRAs do not allow catch-up contributions for those over 50. For most physicians earning above $300,000, the SEP-IRA leaves money on the table compared to other options.
Exit Planning: How Entity Structure Affects Your Sale Price
If you ever plan to sell your practice, whether to an associate, a larger group, or private equity, your entity structure has a direct impact on deal value.
S-Corp and LLC (partnership) advantages at exit. When an S-Corp or partnership sells assets (which is how most practice sales are structured), the buyer gets a stepped-up tax basis in the acquired assets. This means the buyer can depreciate and amortize the purchase price, reducing their taxable income over five to fifteen years. That tax benefit is worth 15-25% of the purchase price to a buyer, which means they will pay more for a practice structured as an S-Corp than for the same practice structured as a C-Corp.
C-Corp disadvantage at exit. A C-Corp asset sale triggers double taxation: the corporation pays tax on the gain from the asset sale, and then the shareholder pays tax on the liquidating distribution. On a $2 million practice sale with a $500,000 tax basis, the C-Corp pays $315,000 in corporate tax on the $1.5 million gain. The remaining $1,185,000 distributed to the shareholder triggers an additional $280,000 in capital gains and net investment income tax. Total tax: $595,000. The same sale through an S-Corp would result in approximately $357,000 in total tax (all at the shareholder level at capital gains rates). The difference is $238,000.
A stock sale can avoid the double taxation problem for C-Corps, but buyers almost always prefer asset purchases for the tax benefits. You can structure around this with installment sales and Section 338(h)(10) elections, but these add complexity and cost.
State-Specific Considerations
Entity selection cannot be evaluated in a federal vacuum. State tax rules vary dramatically.
California imposes an $800 minimum franchise tax on LLCs and an 8.84% corporate tax on C-Corps. California also has an LLC gross receipts fee that adds $900 to $11,790 annually depending on total revenue. S-Corps pay a 1.5% tax on net income (minimum $800). These costs are relatively modest but should factor into the overall analysis.
Texas and Florida have no state income tax, which eliminates the PTE election benefit and makes the S-Corp versus C-Corp analysis purely a federal exercise. In these states, the S-Corp's payroll tax savings often win because there is no state income tax to deduct.
New York layers state and city income taxes that can reach 12-14% combined. The PTE election benefit is substantial here, pushing physicians strongly toward S-Corp or partnership structures over C-Corps.
Making the Decision: A Framework
The right entity structure depends on your specific situation, but here is a decision framework we use with physician clients.
Start with an S-Corp election if your net practice income exceeds $200,000, you do not need to retain significant earnings in the business, you live in a high-tax state where PTE elections are available, and you plan to sell the practice within the next ten to fifteen years. This covers the majority of physician practice owners.
Consider a C-Corp if you are over 50, planning to retire within fifteen years, want to maximize defined benefit plan contributions, have significant medical expenses that benefit from C-Corp treatment, and plan to retain earnings in the corporation for a period of years. Run the numbers with your tax advisor before making this election, because unwinding a C-Corp is expensive if it does not work out.
Maintain a partnership or multi-member LLC if you have multiple physician-owners, you want flexibility in income and expense allocation, and you can structure members' interests to minimize self-employment tax. Many multi-physician practices elect S-Corp status for the partnership to get the best of both worlds: partnership flexibility with S-Corp payroll tax savings.
When to Reevaluate Your Structure
Entity structure should be reviewed at least every three to five years, and specifically when any of the following occur: your income changes by more than 25%, you add or lose a partner, your state changes its PTE election rules, you begin planning for retirement in earnest, you receive an acquisition inquiry, or major federal tax legislation passes.
The cost of a thorough entity structure analysis is typically $3,000 to $7,000 when performed by a tax advisor with healthcare practice experience. The annual savings from getting it right are typically five to ten times that amount. The physicians who leave the most money on the table are the ones who picked an entity in year one and never looked at it again.
A fractional CFO with physician practice expertise can model each scenario using your actual numbers, coordinate with your tax advisor and attorney to implement the optimal structure, and monitor annually to ensure the structure still fits as your circumstances evolve.