Elect S Corp Status: Everything You Need to Know
An S Corp elects small business status, giving the business the limited liability of a corporation while retaining the individual tax shareholder's rate.4 min read
2. Which Types of Corporations Qualify to Elect S Corp Status?
3. When Must I File an S Corp Election?
4. What are the Benefits of an S-Corporation Status?
Before you elect S Corp status for your business, it's important to fully understand what sub-chapter S Corporations are and how you can benefit. An S Corporation is one which elects “small business status,” giving the business the limited liability of a corporation while retaining the individual tax shareholder's rate.
How Can I File an S Corporation Election?
You must use IRS Form 2553 to file an S Corporation Election. Completing this form provides the Internal Revenue Service with detailed information about your status request and your corporation's eligibility, as not every business will be eligible to elect S Corp status.
An LLC may elect S Corp status using “check-in-the-box rules,” effectively classifying the business as a corporation. If your LLC (limited liability company) transfers its assets and liabilities to the corporation to benefit from company stock and then distributes that stock to owners via liquidation, the transfer to corporation is tax-free assuming certain conditions are met and the business's liabilities do not exceed its assets. After that, the LLC can elect S Corporation status assuming all LLC members are eligible to hold the stock.
The LLC normally must file Form 8832 (Entity Classification Election) to be taxed as a corporation, but if the LLC is eligible to elect S Corp status and files for the election in a timely manner, it does not have to file Form 8832. If the LLC chooses to become a corporation and S Corporation on the same date, filing only Form 2553 is required and it must adhere to S Corp rules.
A business which chooses to file the S election Form 2553 and be taxed as a corporation will be classified as a corporation on the effective S election date. It will then continue to be treated as such until the business opts for another classification. Keep in mind, however, that you can only change a company's classification without IRS permission every 60 months or more after the election's effective date.
Which Types of Corporations Qualify to Elect S Corp Status?
A company can elect S Corporation status if it:
- Only has one class of stock
- Has no more than 100 shareholders
- Uses December 31 as year-end
In addition, shareholders must be legal U.S. residents and they must be individuals, not partnerships or corporations.
When Must I File an S Corp Election?
The IRS requires Sub-Chapter S Elections to be filed no later than two months and 15 days from the start of the tax year in which the election will take effect. For startup businesses, this means the first year.
In other words, if you start a business on January 7, you should file the Sub-Chapter S Election by March 15. If you fail to do so by this date, you will not receive S Corp status during that tax year.
The effective classification date of an S Corp election cannot be more than 75 days before the election is filed, nor can it be more than 12 months after the filing. As such, you can choose to change your company's classification retroactively up to a certain point.
However, under S Corporation rules, a newly formed business must file for S election on or before the 15th day of the third month after the company's activation. This is the earliest date the corporation acquires assets, has shareholders, or conducts business. The actual deadline for filing for S Corp status depends on whether the business is newly incorporated or in a later tax year.
There is no IRS fee to file a Sub-Chapter S Election.
What are the Benefits of an S-Corporation Status?
Electing S Corp status provides your business with the same liability protections enjoyed by corporations. Since an S corporation is effectively a corporation, it enjoys separate entity protections and a corporate-type shield against liabilities, which protect the owners from lawsuits and debt collections.
Keep in mind, however, that liability protection is not absolute for S corporations. These protections may be broken if an owner personally commits an act or guarantees loans which make them personally responsible for the corporation's actions.
Aside from offering liability protections, S corporation status also reduces self-employment taxes. Business owners in sole proprietorships or partnerships must pay self-employment taxes, but S corporation status reduces the profits paid to the owners, reducing the self-employment tax.
Other benefits an S corporation provides include:
- Avoiding double taxation
- Reducing owner taxes from losses
- Taxing profits at individual rates
If you need help understanding how to elect S Corp status for your business, 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.