If you are thinking of starting a business, one of the questions you may be asking yourself is what type of corporation to file for with the IRS. From and LLC to an S Corp to a C Corp and more, there are many types of corporations that that IRS recognizes. Each type has its own benefits and drawbacks. In this article, we will look at S Corps, what makes them unique, and what the pros and cons of this type of corporation are.
What is it?
An S Corporation, or S Subchapter as it is sometimes called, is a type of corporation that passes corporate income, losses, deductions, and credits through to the shareholders for the purpose of federal taxes. Shareholders then are required to report the corporation’s income and losses on their personal tax returns. The corporation’s income and losses are then assessed at the individual shareholders personal tax rate.
There are some definite benefits to an S Corporation.
- Shareholders of an S Corp enjoy limited liability protection.
- Owners report their share of profit and loss on their individual tax return.
- Owners eliminate the need for double-taxation of income (taxation once as corporate income and again as dividend income).
- The company can attract investors through the sale of stock shares.
- The business continues to exist, even if the owner leaves or dies.
- S Corp owners only need to file taxes once a year with their personal income tax. On the other hand, a C Corp must file taxes quarterly.
Before filing an S Corporation, there are few drawbacks to consider.
- Unlike a C Corp or an LLC, you must be a U.S. citizen or lawful permanent resident to file an S Corp.
- An S Corp may not have more than 100 shareholders.
- There are a number of steps to incorporating, and many states impose ongoing fees or franchise tax fees on an S Corp.
- If filing requirements are not meticulously followed, it could lead to the accidental termination of S Corp.
- Payments to the shareholders are under immense scrutiny by the IRS as they can be distributed as either salary or dividends, each with their own very different tax processes.
- Only individuals, certain estates and trusts, and certain tax-exempt organizations can be shareholders of an S Corp.
- There can only be one class of stock.
How to Form an S Corp?
To start, you will need to choose a name for your corporation and reserve it with your state. Then you will need to draft and file your Articles of Incorporation. From there you must issue stock certificates to your initial shareholders and apply for a business license. Then you must file Form SS-4 with the IRS in order to obtain an Employer Identification Number. Lastly, you must file IRS Form 2553 within 75 days of formation of your corporation. Speak with your attorney to ensure that all the necessary steps are taken and followed according to the IRS and your state’s guidelines.