S corp rules refer to the rules that business owners need to follow to establish and maintain an S corporation. An example of an S corporation rule is that the shareholders of the S corporation need to be residents or citizens of the United States. Another example of an S corp rule is that S corporations cannot have more than 100 shareholders. For more information about S corporation rules, read on.

What Is An S Corporation?

An S corporation is defined as a corporation that is treated like a pass-through entity for the purposes of federal taxes. To be treated as a pass-through entity, the owner of the corporation needs to make an election with the Internal Revenue Service (IRS). After making the election, the corporation is considered an S corporation in the eyes of the IRS. However, legally, the corporation remains a C corporation.

Just like a C corporation, the S corporation is created by filing the articles of incorporation. The Secretary of State is usually the government body that the articles of incorporation are filed with.

An S corporation is able to issue stock, and the entity is governed like a corporation. Just like a C corporation, an S corporation has officers, directors, and shareholders who are able to function just as their counterparts do in the typical C corporation.

The owners also enjoy protection from personal liability, just as they would when be in a C corporation. The owners of an S corporation are also referred to as shareholders.

An S corporation is essentially a C corporation has anywhere from 1 to 100 shareholders. An S corporation passes through the net income and the losses to the shareholders by following the guidelines of Chapter 1, Subchapter S of the Internal Revenue Code. 

The personal assets of the owner of an S corporation cannot be taken to satisfy the liabilities of the S corporation. Examples of personal assets include personal bank accounts, homes, and cars.

However, S corporations pass through the vast majority of their income and losses as items to the owners. The same is also true for partnerships and sole proprietorships.

Unlike a C corporation, S corporations are not subject to double taxation. A corporation is taxed at the corporate level and then taxed again at the shareholder level.

When it comes to S corporations, each shareholder is taxed individually on the income and losses received from business entity.

How to Start and Form An S Corp

Here are some of the steps involved in starting and forming an S corporation:

  • Select a legal name for the S corporation and reserve it. This step is only necessary in certain states, as not all secretaries of state process requests for the reservation of a name.
  • Create the articles of incorporation and file it with the Secretary of State.
  • Issue stock certificates to the original shareholders.
  • Apply for certificates related to your industry as well as for a business license.
  • File Form SS-4 or apply at the website for IRS to get an Employer Identification Number (EIN) for your S corporation.
  • Apply for all the ID numbers that are required of you by local and state government agencies. Of course, the requirements differ from jurisdiction to jurisdiction. However, in general, your business will need to pay disability, unemployment, and other payroll taxes. You must get tax ID numbers for these accounts along with the EIN.
  • File the IRS form 2553 by 75 days after forming the S corporation.

What Is Pass-Through Taxation?

One main advantage of an S corporation is pass-through taxation. When corporations apply for status as S corporations under Subchapter S, the corporations are essentially electing pass-through taxation.

The S corporation offers the same protection as a C corporation from personal liability. However, S corporation owners are also able to report their shares of losses or profits in the company on their personal tax returns. S corporations file the IRS Form 1120s in order to report their income and losses.

While pass-through taxation is one of the main advantages of S corporations, there are many other advantages. Unfortunately, many small business owners assume that it is too time-consuming or costly to form an S corporation. However, the truth is that the advantages of an S corporation tend to greatly outweigh the disadvantages.

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