C Corp Versus S Corp: Everything You Need to Know
C corp versus S corp selection is a decision a new business considers when forming a corporation. 3 min read
C corp versus S corp selection is a decision a new business considers when forming a corporation. A C corporation is the standard structure and an S corporation elects to be subjected to a special tax status when filing with the Internal Revenue Service (IRS).
Information About a C Corporation
All corporations initially start out as a C corporation. This can be changed by the owner filing Form 2553, which is the Election by a Small Business Corporation from with the IRS. Electing to be taxed as an S corporation eliminates the double taxation process of a C corporation. Double taxation involves taxing the C corporation's profits, then any profits distributed to shareholders in the form of dividends being taxed again on personal tax returns.
Corporations with shareholders who are also employees often provide benefits such as life, disability, and health insurance. With C corporations, it is possible to deduct the cost of these benefits at the corporate level versus shareholders being taxed as long as these benefits are provided to a certain percentage (currently 72 percent) of the corporation's employees.
C corporations can be owned by other corporations, trusts, or limited liability companies. The corporation is owned by individual shareholders. These shareholders have liability protection that makes them not liable for any debts or liability incurred by the corporation.
Additional information about C corporations include:
- In the U.S., the C corporation is the most common type of corporation.
- C corporations provide flexibility when it comes to selling shares of stock.
- As a separate taxable business, owners must pay income on profits and businesses pay corporate income tax.
- C corporations file Form 1120 to pay taxes at the corporate level.
- S corporations have ownership restrictions, but C corporations have none.
- Foreign (non-resident alien) shareholders are allowed as part of C corporations.
Information About an S Corporation
The structure of an S corporation is the same as that of a C corporation. The business is owned by shareholders who have some part in decision-making and appoint the board of directors. The board is responsible for the direction of the business, and executive officers are in charge of managing the business's day-to-day operations. Also, S corporations, like C corporations, are responsible for filing its Articles of Incorporation to form the corporation, issue stock, hold shareholder and director meetings, pay applicable fees, and so on.
An S corporation's tax structure is one of its biggest benefits as it is not subject to double taxation, meaning they do not pay taxes twice on the business's income. Not having the threat of double taxation is an advantage for smaller businesses. On the reverse side, an S corporation tends to receive more scrutiny from the IRS. This is apparent during tax time when filing the different forms. If an error is made when filing, S corporation status can be terminated, and your business will be taxed as a C corporation
During tax time, an S corporation files an informational federal return as there are no corporate income taxes being paid. An S corporation operates by passing through the profits and losses of the business to the owners who are responsible for paying any tax due at the individual level. The form used to file the information is Form 1120S.
When initially forming an S corporation, if the S election form is filed at that time, the corporation will be set to S corporation status from the start, hence avoiding the built-in gain tax that occurs when a C corporation converts to an S corporation. In other words, If the corporation is established as a C corporation but then elects to change to an S corporation within 10 years, it is subject to corporate taxes.
Additional S corporation information includes:
- An S corporation cannot be owned by another S corporation, a C corporation, most trusts, partnerships, or limited liability companies (LLC).
- Business losses can be written off, which is especially beneficial for new companies that may be operating at a loss.
- There is only one class of stock with S corporations. Although there is no difference between any business or shareholder, there can only be one kind of shareholder.
- S corporation shareholders each have equal voting rights.
- Although a business may be initially set up and taxed as a C corporation for years, owners can opt to elect to change the status to that of an S corporation.
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