Personal Service Corporation

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Personal Service Corporation

Key takeaways

  • A personal service corporation (PSC) is an IRS-recognized C corporation that provides specified professional services (law, accounting, health, engineering, consulting, performing arts, architecture, actuarial science, veterinary, etc.).
  • PSCs are taxed at a flat 21% corporate rate but face strict ownership and service‑performance tests to qualify.
  • PSCs offer limited liability and certain corporate tax benefits, but they can be complex and costly to form and maintain.

What is a personal service corporation?

A personal service corporation is a corporate form used by professionals who provide personal services directly to clients. The IRS treats these entities as C corporations and applies special rules to determine eligibility and tax treatment.

Qualified services generally include accounting, law, health (including veterinary), engineering, architecture, consulting, actuarial science, and performing or fine arts. Financial services are not considered qualified services for PSC status.

Qualification criteria

To be classified as a PSC, a corporation must meet IRS tests based on ownership and the performance of services:

  • Qualified activities: At least 95% of the corporation’s business must be the performance of qualified personal services.
  • Employee-owner service requirement: Employee-owners must collectively perform at least 20% of the corporation’s services. The IRS measures this by hours—for example, if total service hours are 5,000 in a year, employee-owners must supply at least 1,000 of those hours.
  • Employee-owner status: To be an employee-owner for the testing period (generally the prior tax year), an individual must both perform services for the corporation on any day of the testing period and own stock in the corporation at any time during that period.
  • Ownership threshold: Employee-owners must own more than 10% of the corporation’s outstanding stock on the last day of the initial one‑year testing period.
  • Fiscal year: PSCs are generally required to use the calendar year as their tax year.

Special rule: For certain creative or fine arts and photography businesses, ordinary business expenses for creative work can be deductible by the corporation only if the owner/employee (or family members) hold all or nearly all of the corporation’s outstanding stock.

Tax implications

  • Flat corporate tax rate: PSC taxable income is subject to the flat 21% corporate tax rate.
  • C corporation characteristics: Earnings retained in the corporation are taxed at the corporate rate rather than at individual marginal rates; PSCs may also provide some tax-free fringe benefits and allow corporate deductions for business expenses and capital expenditures.
  • Compliance rules: PSCs must follow additional tax rules (calendar tax year requirement, passive activity regulations, and other C corporation provisions), which can limit flexibility and increase administrative burden.

Benefits

  • Potential tax savings for high-earning professionals through the flat corporate rate and retained earnings opportunities.
  • Limited liability protection for owner-employees.
  • Access to corporate tax deductions, employee benefits, and capital cost recovery rules.

Drawbacks

  • Formation and ongoing compliance can be costly and complex.
  • Strict IRS tests on ownership and service performance increase the risk of audits and penalties if rules are not followed.
  • Less structural flexibility than other entity choices (e.g., S corporations or sole proprietorships).
  • Not all professional practices or activities (notably many financial services) qualify.

PSC vs. S corporation and vs. professional corporation

  • S corporation: Different tax treatment (pass-through taxation), shareholder restrictions, and eligibility rules. Many financial advisors choose S corporations because financial services are excluded from PSC qualified services.
  • Professional corporation: A state-law entity that may be required for certain licensed professionals; “professional corporation” is a state classification and is distinct from the IRS concept of a PSC.

Bottom line

A personal service corporation can be a viable option for professionals in qualifying fields who want corporate tax treatment and liability protection. However, PSC status brings tighter ownership and service-performance requirements and additional administrative complexity. Evaluate the tax advantages against the compliance costs and consult a tax or legal advisor to determine whether a PSC fits your business and long-term objectives.