C Corp vs S Corp Taxes: Everything You Need to Know
C corp vs S corp taxes refers to the differences between being taxed as a C corporation or an S corporation by the IRS. A C corporation is the most common US corporation, and the type of corporation that all businesses begin as. 3 min read
2. Similarities Between C Corps and S Corps
3. Differences Between C Corps and S Corps
4. Taking the S Corp Election
C corp vs S corp taxes refers to the differences between being taxed as a C corporation or an S corporation by the IRS. A C corporation is the most common US corporation, and the type of corporation that all businesses begin as. S corporations, on the other hand, are formed by filing Form 2553 with the IRS in what is known as a status election. The most common reason for taking an S corp election is for the tax treatment that many find favorable.
C Corps and S Corps
Choosing between a C corp and an S corp is one of the most important decisions a new business owner must face, with many ramifications both tax related and otherwise. Thus, including an attorney and a tax professional in this decision may be advisable.
Similarities Between C Corps and S Corps
There are many similarities between C corps and S corps, including:
- Limited liability protection. Both S corps and C corps offer limited liability protection, meaning that in most cases the owners do not bear personal responsibility for business liabilities and debts.
- Structure. Both corporation forms must have directors, officers, and shareholders. The shareholders are also known as the owners and these individuals choose directors who manage big-picture issues. Officers are chosen to run the day-to-day affairs.
- Formalities. S corps and C corps are both required to adhere to the same external and internal obligations and formalities, such as issuing stock, adopting bylaws, filing annual reports, paying annual fees, and holding director and shareholder meetings.
- Payroll requirements. All owners who work for the corporation must be on the payroll. Payroll taxes are to be withheld and matched, and all working owners should be given a reasonable rate of pay since the IRS looks at pay rates closely to see if taxes are avoided by taking an abnormally low salary.
- Perpetual existence. What is called “perpetual existence” applies to both S and C corps. Perpetual existence means that an S or C corp will continue on regardless of the owner’s involvement or health status, including if they should pass away.
Differences Between C Corps and S Corps
The corporations do have many similarities, but C corps and S corps also have differences, including:
- Tax level. C corporations must pay taxes on the corporate level, while S corporations have their losses or profits pass through to the individual shareholders, who are then taxed individually. In this system, S corporation losses get applied to other income, which reduces the shareholder’s tax liability.
- Fund withdrawal. Owners of C corporations cannot withdraw funds arbitrarily, and funds that are withdrawn are subject to double taxation. Owners of S corporations, on the other hand, may withdraw funds as long as they are paid wages by the S corporation.
- Benefits. C corporations enjoy more benefits than S corporations, such as disability and life insurance, and these benefits are not taxed so long as at least 70% of those in the corporation receive those benefits.
- Estimated tax. C corps pay estimated tax based on their total profit, while S corps pay this on the state level based on the state rules that apply.
- Income tax. S corporations pay no income tax on the federal level, while C corporations do.
- Ownership restrictions. C corporations have unrestricted ownership, while S corps cannot have over 100 shareholders, nor any shareholders who are non-US citizens, LLCs, partnerships, other S corporations, C corporations, or many trusts.
- Stock. C corporations can have multiple classes of stock, while S corporations can only have one.
Taking the S Corp Election
If you do decide to take the S corp election, you will have to make sure that your business meets the ownership restrictions for S corps, and then, if it does, you will have to file Form 2553 with the IRS. This form should be filed before two months and fifteen days of the tax year have passed. Additionally, it is a requirement in some states that you file an S corp election on the state level.
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