Why choose an S corporation?
S corps are corporations that have elected a special tax status with the IRS. S corporations provide the same limited liability to owners (called shareholders) as C corporations, meaning that owners typically are not personally responsible for business debt and liabilities; however, S corporations have pass-through taxation. S corps do not pay tax at the business level, they file an informational tax return but business income/loss is reported on the owners’ personal tax returns, and any tax due is paid at the individual level.
S corp advantages
Forming an S corporation has many advantages. Many small business owners form a corporation and elect S corp status for pass-through taxation. Other typical advantages of forming an S corporation include:
- Limited liability protection. Owners are not typically responsible for S corporation business debts and liabilities
- Easy transfer of ownership. Ownership is easily transferable through the sale of stock.
- Unlimited life. When a S corporation’s owner incurs a disabling illness or dies, the corporation does not cease to exist.
- Pass-through taxation in the corporate form. S corporation tax status avoids the “double-taxation” associated with C Corps and instead provides S corp owners with pass-through taxation benefits.
- Raise capital more easily. Additional capital can be raised by selling shares of stock.
- Credibility. S Corps may be perceived as a more professional/legitimate entity than a sole proprietorship or general partnership. Learn more about sole proprietorship vs s corp.
- Pro-rata distribution of profits. Under IRS S corp taxation rules, profits, losses and other pass through items are allocated based on each shareholder’s proportionate shares of stock.
- Income and losses passed through to shareholders. Income and losses of S corps are passed through to shareholders, similar to the way income and losses of partnerships are passed through to partners.
- Lower audit risk. Generally S corps are audited less frequently than sole proprietorships.
- Tax deductible expenses. Business expenses may be tax-deductible.
- Self-employment tax savings. An S corp can offer self-employment tax savings, since owners who work for the business are classified as employees.
S corporation ownership restrictions
Per IRS guidelines, S corporation owners (shareholders) must meet the following criteria:
- Number 100 or less.
- Must be US citizens/residents (cannot be non-resident aliens).
- Cannot be C corporations, other S corporations, limited liability companies (LLCs), partnerships or certain trusts.
Other IRS restrictions, apart from ownership restrictions, also apply to S corporations. For example, there can be only one class of stock (but differences in voting rights are permissible) and the corporation must be a domestic corporation.
How do you form an S corporation?
In order to register a business as an S corporation, Articles of Incorporation (sometimes called a Certificate of Incorporation), must be filed with the state and the necessary filing fees paid. After incorporation, Form 2553 must be filed with the IRS in order to elect S corporation status.
Also after incorporation, S corporations are also required to adopt bylaws, hold an initial meeting of directors and shareholders, and issue shares of stock to owners. Get Started
Are You Looking for a PC?
Professional services that require state licensing (doctors, lawyers, architects, etc.) may require forming as a Professional Corporation or PC. Learn more