S corp limited liability can protect the personal assets of your company's shareholders in the event that your company loses a judgment in a lawsuit or incurs debt that it cannot pay.

Should You Choose an S Corporation?

When you're choosing a structure for your business, it's a good idea to examine the benefits of forming an S corporation, as choosing S corporation status can affect:

  • The taxes you will pay.
  • How many shareholders your company will have.
  • How fully your assets will be protected.

There are three popular incorporation options you could choose for your business, including an S corporation. C corporations and limited liability companies (LLC) are your other two incorporation options.

Businesses are allowed to decide how they will be taxed, and an S corporation is a very popular tax status that can impact how to distribute company profits and handle shares. Like every business structure, there are distinct benefits and drawbacks to being taxed as an S corporation.

When you elect S corporation status, assuming you meet all the requirements, your company will be taxed as a pass-through entity. The ‘S' in S corporation refers to the section of the IRS code that covers these corporations. The benefit of S corporation status is that the shareholders of your company will only be taxed individually instead of being taxed at both the individual and corporate level. This prevents the double taxation that you would be subject to as a C corporation.

In addition to being able to avoid double taxation, business owners also choose S corporation status for the beneficial limited liability protections this structure provides. In Nevada, for instance, these protections even cover corporate shares. While forming an S corporation is very advantageous, you should be aware that there are ownership restrictions with this type of corporation. For instance, your S corporation can only have 100 or fewer shareholders who are required to be either individuals or the living trust of an individual.

Certain entities aren't allowed to be owners of an S corporation, including:

  • Non-US residents.
  • Corporations.
  • Multi-member limited liability companies.

If your company does not follow these restrictions, the IRS will treat you as a C corp, subjecting you to a double tax. If you are operating your business as a partnership or sole proprietorship, then your business structure isn't right for you. Neither of these business structures offer asset protection, meaning your personal assets are vulnerable to business debts and lawsuit judgments. S corporations, on the other hand, do offer limited liability protections, and are a great choice in a variety of situations.

If your business is service-oriented, for example, electing S corporation status will prevent the IRS from characterizing your business as a Personal Service Corporation (PSC). A PSC is a type of C corporation that offers services to the general public. As a C corporation, you will pay a 15 percent rates on earnings up to $50,000, which is a fairly low rate. This is much lower than what your rate would be if you earned a salary of $50,000 and is also lower than the rate you would pay as an S corporation. To maintain their revenue, the IRS designates service-oriented C corporations as PSCs.

As a PSC, your earnings will be taxed at a rate of 35 percent, which is considerably higher than what your rate would be if you took a reasonable salary and passive income from an S corp.

S Corporation Advantages

Corporations are some of America's most profitable and largest companies. Both S corporations and C corporations are a type of for-profit corporation. If you can't decide whether to form an S corporation or limited liability company, you should learn about a few of the most enticing S corporation advantages.

With an S corporation, your company's shareholders and management will both receive limited liability protections as the only money at risk will be the money the shareholders initially put into the company. As with LLCs, the personal assets of your S corporation shareholders should be protected.

Another benefit of an S corporation is being taxed as a pass-through entity, meaning shareholders will be taxed on the profits that they are distributed. For instance, if your S corporation made $40,000 and your company has four shareholders, each shareholder will receive $10,000 that can be taxed.

If you need help understanding S corp limited liability, 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.