Know The Advantages of S Corporations

Know The Advantages of S Corporations

S corporations are entities that can pass corporate income, losses, deductions and credits through to shareholders for federal tax purposes. This article will outline the advantages and considerations you should take when considering becoming an S corporation.

Shareholders report the flow-through of income and losses on their personal tax returns and are assessed a tax at their individual income tax rates. An S corporation offers investment opportunities from the sale of stock and the coveted protection of limited liability which means that company directors, officers, shareholders and even employees can enjoy limited liability protection, and your business can continue to exist even if the owner leaves or dies. In addition, S corporations have to file taxes only yearly and not quarterly like C corporations.

In order to be considered an S corporation, your company must meet the following requirements:

  • Be a domestic corporation.
  • Have only allowable shareholders: individuals and certain trusts and estates, but not partnerships, corporations and nonresident aliens.
  • Have no more than 100 shareholders.
  • Have only one class of stock.
  • Not be an ineligible corporation, such as certain financial institutions, insurance companies and domestic international sales companies.

If you meet these qualifications, you will have to take a number of formal steps to become an S corporation. You have to choose a legal name and reserve it, apply for a business license and other certificates specific to your industry, and obtain an Employer Identification Number. Rules may vary depending on the jurisdiction.

Despite the pass-through advantages, S corporations still have to meet certain responsibilities, such as preparing and filing income tax and estimate tax forms which can be especially complicated. They also are responsible for Social Security and Medicare taxes, federal unemployment taxes, and relevant excise taxes. In addition, individual S corporation shareholders are responsible for income and estimated taxes. Other considerations include:

  • You cannot expand with international ownership. Citizens and permanent residents only.
    With the 100-shareholder limit, there may be practical limits on growth.
  • The IRS can be fussy: Any errors among the various filing requirements can inadvertently result in the termination of S corporation status. Indeed, the IRS typically looks very closely at S corporation filings, making sure there’s a clear line between salaries and dividends, as they are taxed differently. Be prepared for detailed IRS scrutiny in this area.

The S corporation is just one of a number of ways to organize your business. To figure out if it right for your company, we can help walk you through the financial and practical details.