S Corp Versus C Corp: Everything You Need to Know
When comparing s corp versus c corp status, C corporations are standard corporations and what most people think of when they imagine a normal business.3 min read
When comparing s corp versus c corp status, C corporations are standard corporations and what most people think of when they imagine a normal business. By default, you have a C corporation when you incorporate. To become an S corporation, you would need to make a voluntary election with the IRS.
With traditional corporations, individual shareholders own the business and it's treated as a separate legal entity. Shareholders have personal liability protection in most cases, meaning they are not personally on the hook for any business debts or liabilities. Shareholders control policy issues while business matters are handled by the elected board of directors.
How to Be a C Corporation
To structure your business as a C corporation, you need to file official documentation, typically Articles of Incorporation. Once you are approved, you need to meet the strict requirements, which involve paying all fees, issuing stock, having director meetings, etc.
Similarities with S Corporations and C Corporations
S corporations are essentially the same as C corporations, except with a few notable differences, including its tax process.
Like C corporations, S corporations have liability protection. They also have the same compliance and record-keeping requirements. S corporations also need to file Articles of Incorporation and have to issue stock, pay fees, and hold meetings for shareholders and directors.
Shareholder rights are one of the biggest differences in corporation types. S corporations are limited to one class of stock and there is no hierarchy or differences — everyone has equal voting rights. With C corporations, you have more flexibility, and different classes of stock provide for different voting rights.
Pros and Cons of Each
When it comes to advantages of S corporations, there are several:
- Limited liability like C corporations
- Perpetual existence like a C corporation
- No double taxation as income is passed through to individual shareholders
- S corporation owners can write off the company's losses on personal income statements
- S corporations only have to file taxes once a year
There are several disadvantages of S corporations when compared to C corporations:
- Ownership is more limited —you cannot have more than 100 shareholders and the requirements are more strict (no non-resident aliens, other corporations, etc.)
- The IRS scrutinizes returns more closely on S corporations. If you make a mistake, it could cost you your status.
There are several advantages to structuring your business as a standard C corporation:
- Protection from personal liability issues.
- Corporations have what's known as "perpetual existence," which means the business can live on indefinitely if the original owner dies.
- C corporations have no limit on shareholders.
- The flexibility of added shareholders makes it easier to raise larger amounts of capital.
There are some tax benefits with C corporations, including the ability to deduct costs like health insurance. Also, shareholders don't pay taxes on fringe benefits as long as 70 percent of the corporation receives the same benefits.
C corporations have a few disadvantages to consider as well. One of these is the issue of double taxation. The C corporation is taxed on its earnings and then shareholders pay tax on dividends. Corporations can be expensive and complicated to form in some cases.
Converting to S Corporation Status
To convert to an S corporation, you need to file IRS Form 2553. Depending on what state you are in, there may be state forms required as well. To start S corporation status in the current tax year, you will need to get the form filed no later than March 15th of that year provided you operate on a calendar year system. In companies that use alternate fiscal year methods, it must be filed prior to the 15th day of the third month of that fiscal year.
Making the Choice Between S and C Corporations
Small businesses tend to be drawn to S corporation status for the tax benefits while larger businesses gravitate towards C corporations for flexibility. The decision to go with a C corporation or S corporation is entirely personal and the benefits may vary based on individual situations. The way you opt to structure your business is an important decision and is not to be taken lightly. Consider talking to a small business lawyer or CPA for guidance as well.
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