By: Barry E. Haimo, Esq.
June 12, 2016
What Is an S Corp?
If you have a business or are thinking about starting your own business, you need to decide what type of business structure will best suit your business’s tax and legal needs. Different business structures have unique advantages and disadvantages, but they are generally designed to limit the business owners’ liability.
A standard business corporation – better known as an S corporation or S corp – is like a C corporation but without the business tax. An S corporation or S corp is a special type of corporation. It’s essentially a traditional corporation – better known as a C corporation or C corp – except it has elected to be treated as a small business corporation under subchapter ‘S’ of the internal revenue code.
An S corp, however, has special tax status with the IRS. The business profits in an S corp “pass through” to the owners like with a limited liability corporation, partnership, or sole proprietorship. The owners then have to report those profits – or losses – on their own personal tax return. Like other pass-through entities, the S corp still must file an information return in the form of an 1120S. The S Corp must also prepare a K-1 for each shareholder to report their respective share of corporate income..
Advantages of an S Corp
Limited liability. As an S corp, business owners are not personally liable for the company’s liabilities or debts. Basically, an S corp allows your personal and business assets to be separate. Therefore, if a creditor sues the corporation, that creditor generally won’t be able to go after the owner’s personal assets to satisfy the debt. The liability, though, is limited, and won’t necessarily protect you from all suits. For example, you negligently caused a car accident while making a business delivery in the company vehicle, you can be liable.
Pass-through taxation. Like an LLC, an S corp isn’t a separate entity from its owners for tax purposes. As mentioned above, an S corp’s profits and losses pass through to the owner’s individual tax returns. The shareholders, rather than the business, are taxed. Doing this helps to avoid double taxation, which can also save your business money. Also, unlike with an LLC, the shareholders of an S corp aren’t subject to a self-employment tax unless they are also an employee and only to the extent of their wages
Stock. An S corp can issue shares of stock to attract investors.
Exists in perpetuity. An S Corp is an independent entity from its shareholder. If a shareholder decides to leave the business, passes away or sells off his or her shares, the S corp will continue to exist in perpetuity.
Rules of an S Corp
While an S corp has many benefits, it also has strict requirements and operational processes.
- The owners and shareholders of an S corp must be United States citizens or residents.
- An S corp is limited to 100 shareholders.
- The business profits and losses have to be distributed proportionally to the interest of each shareholder.
- In order to form an S corp, there will be initial fees and ongoing expenses. You will have to file an Articles of Incorporation, designated a registered agent, and pay the start-up costs. You may then have annual report fees and franchise tax fees, but this is consistent with every entity formation.
- The IRS will pay closer attention to salaries and dividends paid to employees and shareholders to ensure that a “reasonable” salary is being paid to owners. This is beyond the scope of this post and will be covered later.
If you decide to elect to do business as an S corp, it’s important to know that your decision doesn’t have to be permanent. If your business becomes bigger and more profitable, you might find forming a traditional corporation is more advantageous. After a certain period of time, you may be able to choose to drop the S corp status.
If you think an S corp is right for your business or you have questions about which business structure is best for your needs, contact an experienced Florida business planning attorney for a consultation.
Barry E. Haimo, Esq.
Strategic Planning With Purpose
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