Many pediatric practices operate as C-corporations. Each year, the partners pay themselves the practice's profit as compensation. This brings the corporation's net income close to zero, so little or nothing is left to be taxed twice. Accountants often ask these practices the same question: why aren't you an S-Corp?
The instinct makes sense, and an S election is often good advice. A rushed change, though, can carry a tax cost nobody has put a number on, and for some groups the payoff is smaller than the pitch. Here is how PMI walks practices through the decision.
A C-Corp keeps partner pay orderly. The practice runs the compensation formula for the first eleven months of the year. In the final month, it pays out what each partner earned through payroll and tries to land the year at zero net income.
When a practice lands at zero net income every year, the biggest hurdle of the C-Corp, double taxation, mostly goes away. Corporate tax only bites on profit the corporation keeps on its books. Most practices are good at landing at zero, so the double-tax argument for switching is often thinner than it sounds.
The C-Corp does carry a cost. Every dollar paid to partners runs through payroll and carries payroll tax for both the practice and the partner. The year-end deadline also strains cash. Everything the partners earned has to go out the door before the books close, which leaves the practice thin on cash in January. That bites hardest when a payroll lands in the first week of the next year.
An S-Corp passes its profit through to the owners' personal tax returns, so the corporation itself pays no income tax. Each owner takes a "reasonable" salary through payroll, often set below that year's Social Security wage base. Profit above the salary is paid out as distributions, which are not subject to Social Security or Medicare tax.
The biggest benefit of an S-Corp is timing. A C-Corp has to pay out its profit by the last day of the tax year, or the corporation pays tax on what's left. An S-Corp has no such deadline. Its profit is taxed on the owners' personal returns whether or not the money leaves the practice's bank account by year-end. That gives the practice more time to calculate and pay out the full year's earnings, without the year-end rush typical of a C-Corp.
S-Corp distributions must follow ownership percentages. The IRS allows only one class of stock, so a 50/50 ownership split means a 50/50 split of every distribution. However, partners in a pediatric practice often earn very different amounts in a given year.
Take two partners who each own 50% of an S-Corp. One earns $290,000 for the year and the other earns $250,000. Both draw a $184,500 salary, which matches the 2026 Social Security wage base. After salary, the first partner is still owed $105,500 and the second is owed $65,500.
Under an S-Corp, the practice pays each partner a $65,500 distribution, since distributions must match ownership percentages. The first partner is still owed another $40,000. The cleanest way to pay it is an extra paycheck to that partner. Here's the catch: that paycheck carries payroll tax. Because the partner's salary already reaches the $184,500 Social Security wage base, the extra $40,000 owes Medicare tax only, but it still chips away at the savings the S-Corp promised.
When the paycheck goes out matters less than it seems. Payroll tax follows the year the wages are paid. If the extra $40,000 is paid in January, Social Security tax is withheld at first because the wage base resets each year. Once the partner's regular salary reaches the new year's wage base, Social Security withholding stops, so the partner's total Social Security tax for that year is still capped. In most cases the net extra cost remains Medicare tax.
The wider the earnings gap, the bigger the drift. If two or three partners earn $40,000 or more above the rest, those partners see less benefit than everyone else, and the juice might not be worth the squeeze to switch to an S-Corp. Groups with a heavy eat-what-you-kill formula feel this most.
Timing adds one more wrinkle. If the extra $40,000 goes out after year-end, it lands in the next tax year and reduces that year's net income. The practice has to track such payments and account for it, or next year's numbers will look off. The S-Corp is a little more complex, but the complexity is manageable.
Most of an S-Corp's tax benefit comes from shifting part of each partner's earnings out of salary and into distributions: less salary, more distributions. That shift has a cost at year-end. The amount a partner can put into the retirement plan is based on W-2 salary, and distributions do not count.
In a C-Corp, every dollar a partner earns runs through payroll, so the full amount counts as compensation for the practice's 401(k) and profit-sharing plan. In an S-Corp, the tax savings come from paying partners a lower salary and the rest as distributions. The lower the salary, the smaller the retirement contribution the plan allows.
Here is how the 2026 limits work:
Take a partner earning $300,000. In a C-Corp, the full $300,000 counts as compensation. A 25% profit-sharing cap of $75,000 leaves plenty of room to reach the $72,000 maximum.
Now move the same partner into an S-Corp and set the salary aggressively low, at $120,000, to stretch the payroll tax savings. That saves about $13,200 a year in payroll tax. But profit sharing now tops out at 25% of $120,000, or $30,000. Add the $24,500 salary deferral and the partner can put away only $54,500, which is $17,500 short of the maximum every year. The lower the salary goes to chase the tax savings, the less room is left for retirement contributions. A salary that low for a physician earning $300,000 could potentially draw IRS scrutiny as unreasonable compensation.
The same math applies to cash balance and other defined benefit plans, where the allowed contribution also depends on W-2 salary. Partners in their 50s and 60s, who are often trying to catch up on retirement savings, feel this most.
Before setting salaries, run the retirement numbers next to the payroll tax savings. For partners who max out their plans every year, a higher salary might be worth the extra payroll tax, and the S-Corp advantage shrinks accordingly.
The last wrinkle is Social Security. In 2026, Social Security tax applies to the first $184,500 of W-2 wages. Distributions don't count toward that amount. A partner whose S-Corp salary falls below the wage base pays less Social Security tax, but also earns less credit toward a future Social Security benefit. The benefit is based on a worker's highest 35 years of earnings, so a few lower-salary years usually trim the benefit modestly rather than erase it. Part of the S-Corp's tax saving comes from paying less into Social Security. The fix is discipline: set aside part of each distribution for retirement to offset the potentially smaller benefit.
Before anyone files paperwork, get written answers to these three questions. In PMI's experience, about 30% of the time the accountant comes back and says the switch carries no tax impact. The other 70% of the time, there is a cost, and nobody should guess at the size.
Electing S status for an existing C-Corp is a tax election filed with the IRS, not a dissolution. The corporation stays intact. The catch is the built-in gains tax. Assets worth more than their tax basis on the election date trigger corporate-level tax if sold or collected within five years of the switch. Ask for a dollar estimate.
Document every asset's value on the election date. For a practice, the list usually includes equipment, any real estate the corporation owns, goodwill, and receivables not yet taxed. Have your CPA record the fair market value and tax basis of each asset as of the conversion. Without the record, the IRS may treat the whole later gain as built-in. The tax rate is 21%, and the tax applies only when total built-in gains exceed total built-in losses.
Write down those exact words. When a corporation posts a net loss on their annual tax return, the IRS lets the corporation apply the loss against profit in future years. Losses from 2018 on can offset up to 80% of a year's taxable income. C-Corps run to zero every year often pile up carry-forward losses in the hundreds of thousands of dollars.
Those losses have real value. At the 21% corporate rate, a $100,000 carry-forward loss is worth $21,000 in future tax savings. Losses from C-Corp years generally do not pass through to shareholders after an S election, so the practice risks leaving that value on the table. Find the carry-forward loss figure on last year's corporate return, then ask your accountant whether any of it can still be used, for example against built-in gains tax.
Ask the accountant to rerun the last full year as if the practice had been an S-Corp. Use real partner earnings, a defensible reasonable salary for each partner, and pro-rata distributions. Compare the payroll tax savings against the disproportionate-earnings drift, the built-in gains exposure, any carry-forward losses you would give up, and the retirement contribution shortfall. The answer tells you whether the S-Corp wins and by how much.
The S election is made on IRS Form 2553, and every shareholder must sign. The form is due no later than two months and 15 days after the start of the tax year the election covers. For a calendar-year election, the deadline is March 15. Miss the date and the election generally takes effect the following year.
Check your state too. Most states follow the federal election automatically, but some have their own rules. For example, New York requires a separate state election, and without one the practice stays a C-Corp for New York tax purposes. A few places also tax S-Corps at the entity level, such as California's 1.5% franchise tax and New York City's corporate tax.
S-Corps generally must use a calendar year. A practice on a non-calendar fiscal year faces a second conversion on top of the entity change, with a short tax year in between. Exceptions exist, but plan for a calendar year unless your accountant tells you otherwise.
The S-Corp tends to win when partners earn close to the same amount, when the practice wants to hold cash past year-end, and when the accountant's model shows built-in gain and few losses to forfeit. If your group fits that profile, the election deserves a serious look.
Staying a C-Corp tends to win when the practice already lands at zero net income, partner earnings vary widely, the corporate return shows large carry-forward losses, or partners need salaries high enough to max out their retirement plans anyway.
Bring your accountant the three questions above before you pull the trigger. Accountants know their stuff, and a second set of eyes on the answers helps. PMI is glad to join the call when the numbers come back.
This article is general information, not tax or legal advice. Talk with your CPA before changing your entity's tax status.