Businesses seeking examples of subchapter S corporation filings should look at IRS Form 2533. S corporations get their name from Subchapter S of the Internal Revenue Code and the voluntary decision they've made to be taxed under this subchapter. They are treated as a pass-through entity for tax benefits but maintain asset and liability protections like a regular corporation. 

Corporations don't pay taxes on income, deductions, or losses; the shareholders do. Income and losses must be reported by shareholders on their personal tax documents which will be evaluated at the individual tax rates. 

S corporation owners who don't maintain inventory can use a cash accounting method, which is a simpler alternative to the accrual method. The cash method means income is taxed when it's received and expenses aren't deductible until they are paid. 

Example of S Corporation Taxation 

Roberts, Inc. is an S corporation in Florida. Jack owns 51 percent and Jill owns 49 percent. Their net profits were $20 million for the last tax year. When they prepare their individual tax returns, Jack will claim $10.2 million in income while Jill will claim $9.8 million. 

S corporations have the option to place the business' proceeds back into the business rather than distributing profits, however, they will be taxed on their share of profits. 

Eligibility Requirements to be an S Corporation

There are strict guidelines for forming an S corporation:

  • Must be domestic 
  • Can't have over 100 shareholders 
  • Can only have one type of stock 
  • Must abide specific rules on who can be shareholders
  • Must not be a corporation that is "ineligible"

If the company can't meet all these requirements or it changes status, the corporation runs the risk of losing its S status. 

Pros and Cons of S Corporations

Pros of S corporations center around its taxation methods and shareholder protections. Potential negative aspects are related to corporate records. 

Pros of S corporations include: 

  • Lack of double taxation 
  • Liability protection for shareholders 
  • Can take up to 100 investors
  • Ability to utilize simpler accounting calculations 
  • Added write-offs for business expenses

Cons of S corporation include: 

  • Added fees and rules
  • Shareholder taxation 
  • Inability to have more than one stock class
  • Must pay a "reasonable" salary to officers and owners
  • Limited access to wide investor pool 

How to Form S Corporations

  1. Start by filling out all required forms, including Articles of Incorporation, with your respective Secretary of State office.
  2. Then, you need to apply for all permits and business licenses — both at the city and state levels. 
  3. When the corporation is active, file IRS Form 2553 to choose S corporation tax status.

Differences Between LLCs, C Corporations, and S Corporations

Some of the differences between LLCs, C corporations, and S corporations: 

  • S corporations are similar to a partnership in that profits and losses are passed along to shareholders, while a C corporation is a separate legal entity that is directly taxed. An LLC is a type of hybrid business that affords liability protection to members, much like a corporation. 
  • Both S and C corporations must have a board of directors and officers, along with annual meetings while LLCs have far fewer requirements. S corporations and C corporations must have directors who manage day-to-day operations whereas LLCs can elect whatever type of management structure they want. 
  • LLCs are perpetual unless its particular state regulates a specific time frame. S and C corporations live on after shareholder withdrawal or death. 
  • LLCs can choose how they want to be taxed, whereas corporations are regulated. 
  • LLCs and C corporations are not limited to a cap on shareholders while S corporations are capped at 100 shareholders. 

How to Terminate S Corporation Status

To voluntarily end the S corporation status, a statement must be filed with the office of the Secretary of State where the corporation was started. Shareholders who own more than one-half of the stock are the only ones authorized to terminate an S corporation. Once the status is terminated, you must follow IRS guidelines and submit follow up information as requested. Because the requirements are strict, maintaining an S corporation can be confusing and it's easy to fall out of compliance. 

Inadvertent Termination 

If you don't follow the requirements, it can lead to an "inadvertent termination" of your S corporation. If your S corporation falls under "inadvertent termination" status, the IRS suggests you contact them directly or speak with a qualified tax professional.  

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