What about an S Corporation?

If you are starting a business, one of the most important issues you will need to determine is the legal and tax structure of the business. Perhaps you’ve heard about “S corp” as an option for structuring your business, but you may not be very familiar with what an S corporation actually is and how it works for legal and taxation purposes.   

What Is an S Corp? 

“S corp” refers to the type of taxation treatment available to corporations and limited liability companies (LLCs) who choose S corporation standing. The name refers to Subchapter S of the Internal Revenue Code, which allows companies that elect S corp standing for taxation purposes  to pass through their income, credits, and deductions to the shareholders and members who actually own the corporation or LLC. Thus, the business itself does not pay federal income tax. Instead, each owner reports their share of the company’s profit or loss on their own personal income tax return. 

Some Pros and Cons of Choosing  S Corp status 

The choice of S corp standing for taxation purposes has various benefits and disadvantages. Among the pros of electing an S corp are the following:

  • Pass-through taxation – The company is not required to pay taxes on its profits. Instead, its owners claim the profits, losses, and credits of the company on their taxes.
  • Elimination of double-taxation – Corporations must pay taxes on the profits the company makes. If the corporation distributes those profits to its shareholders, the shareholders must pay tax again on the distribution of profit they receive from the corporation. With the pass-through taxation benefit offered by an S corporation, the company’s profits are only taxed once at the shareholder level.
  • Easier filing requirements – S corps only need to file returns once per year, whereas corporations are typically required to file quarterly.
  • Reduced tax liabilities – If the business is sold, owners have reduced tax liabilities.

Among the cons of choosing  S corp status are the following  restrictions and obligations:

  • Only U.S. citizens and permanent residents may hold beneficial ownership in an S corp. Non-residents, partnerships, and corporations may not own stock or membership interests in an S corp.
  • An S corp is limited to no more than 100 beneficial owners.
  • An S corp may not have more than one class of equitable ownership.
  • An S corp may not operate as an insurance company, bank, or domestic international sales business.
  • The S corp must carefully follow all  tax filing requirements. Otherwise, the corporation or LLC  can jeopardize its S corp status.
  • The IRS will more closely scrutinize S corps who pay their owner-employees tax-free distributions/dividends rather than compensating them with a regular salary/wage. 

Legal and Financial Implications of Establishing an S Corp 

To make an S corp election, you must first form a corporation or an LLC under state law.. You will also need to structure the business to ensure that your company qualifies for an S corp election. Finally, its recommended that you also consult with a qualified corporate or tax attorney to determine how an S corp election will be treated under state tax laws in the states where your company will be required to pay taxes. 

How an Attorney Can Help 

If you are interested in exploring whether an S corp might prove to be the right structure for your business, an attorney from Business Estate & Tax Attorneys, P.C. can with your analysis by:

  • Clearly explaining your business’s options without inundating you with legal jargon.
  • Ensuring you understand the pros and cons of an S corp election, including how the election may affect you under state tax law.
  • Structuring a business formation that will qualify for S corp election.
  • Helping you file the appropriate election paperwork with the IRS.

If you have questions about S corporations or whether this  business election  represents a good option for your venture, contact Business Estate & Tax Attorneys, P.C. today for a consultation by calling at (925) 317-3467 or thorough our online form. Learn more about how our firm can help you with your corporate structuring and taxation needs.

Disclaimer: The information in this article is for general purposes only, and it is not intended as a substitute for legal advice.