Changing from S Corp to C Corp

Changing from S Corp to C Corp can be a good choice for some businesses. When you incorporate your business, you are automatically treated as a C Corp. If you want to elect to be taxed as an S Corp, you will have to submit a form with the Internal Revenue Service (IRS).

While the S Corp has many benefits, some businesses might wish to convert back to a C Corp in certain situations. Therefore, shareholders can voluntarily revoke the S election at any time; alternatively, the IRS might terminate it for either violating one of the requirements or no longer being eligible to elect S Corp status.

Advantages of Changing to a C Corp

There are many advantages of converting your S Corp back to a C Corp, including the fact that C Corp profits have lower corporate tax rates. Shareholders who are generally in higher tax brackets will pay more money if operating an S Corp. But if your business converts to a C Corp, it allows cooperative earnings to be taxed at a lower corporate tax rate of 15% on the first $50,000 of taxable income.

Another benefit of converting to a C Corp is the ability to raise capital. A C Corp has no restrictions on the number of shareholders, as opposed to an S Corp that can have no more than 100 shareholders. Furthermore, the C Corp can offer a variety of classes of stock whereas the S Corp can offer only one class of stock.

Another advantage of the C Corp is the fact that it can offer a greater number of tax-friendly fringe benefits than an S Corp.

Disadvantages of Converting to a C Corp

The C Corp is subject to double taxation. The business profits are taxed once at the corporate level and then again at the personal level as any profits paid to shareholders in the form of dividends or other distributions are subject to tax at the personal income tax level. While the C Corp has the double-taxation implication, the burden has been relieved to an extent based on the legislation that has been passed over the years.

For example, the American Taxpayer Relief Act of 2012 extended the preferential income tax treatment on certain dividends and capital gains. Usually, such funds aren’t taxed for those in the 10-15% tax brackets; the funds are taxed at 15% for taxpayers in the 25-35% tax brackets. Lastly, for those in the 39.6% tax bracket, they will be responsible for 20% tax on dividends and capital gains.

Due to the Affordable Care Act, an additional 3.8% Medicare tax applies to some, maybe all, of the income for couples filing jointly whose adjusted gross income exceeds $250,000 and single taxpayers who had an adjusted gross income greater than $200,000.

Another disadvantage is the fact that shareholders in a C Corp can’t deduct the business losses on their individual tax returns, as the S Corp shareholders can do. If an S Corp revokes its status, then the business might face other costs associated with converting back to a C Corp, including the following:

• Higher state/local taxes

• The business might not be allowed to elect S status for another five years

• Any sales of assets would be subject to double taxation

Hold a Shareholders Meeting

Once you decide you want to convert to a C Corp, you should hold a shareholders meeting. You will need to obtain consent from all shareholders before making this change. Keep in mind that the meeting doesn’t require that all shareholders attend in person. Shareholders can attend over the phone or via online video conferencing.

During the meeting, you’ll want to provide the reasoning as to why you want to convert the business back to a C Corp, and how it would affect the shareholders for tax purposes. You will also want to identify the benefits of conversion. Be sure to use visual aids and graphs to help them understand the purpose of converting. You could also bring a tax professional who can provide answers to any tax questions that might be asked during the meeting.

If you need help changing your S Corp to a C Corp, you can post your legal need on UpCounsel’s marketplace. UpCounsel accepts only the top 5-percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law, and average 14 years of legal experience, including work with, or on behalf of companies like Google, Menlo Ventures, and Airbnb.