Starting an S Corp: Everything You Need to Know
S Corporation is a standard corporation that has applied for S Corp status with the Internal Revenue Service (IRS).3 min read
Starting an S Corp isn't as complicated as many people believe. As long as you meet a few requirements and submit the right form, you should be able to achieve S Corp status and receive the tax benefits of this business entity type.
Overview of an S Corp
Essentially, an S Corporation is a standard corporation that has applied for S Corp status with the Internal Revenue Service (IRS).
S Corporations provide two major benefits:
- Personal liability protection when your company is sued
- The ability to report business income on personal returns, avoiding double taxation
Being taxed as a pass-through entity and providing liability protections are great reasons to apply for S Corp status. However, there are some requirements that must be maintained if you want to form an S Corporation, including:
- Ensuring your company is a domestic corporation
- Limiting your shareholders to less than 100
- Guaranteeing your shareholders are eligible
- Having only one stock class
S Corporations have chosen a special IRS tax status. The owners of an S Corp, who are known as shareholders, will have the same liability protections as owners of a C Corp. Unlike a C Corp, S Corporations allow for pass-through taxation, which is very beneficial. S Corps pay no business taxes. While these corporations will file an informational return, owners will report losses and profits on their personal return and then pay any required taxes. This prevents double taxation, saving the company a great deal of money.
Forming an S Corp
Although many small businesses choose different entity types, electing to be treated as an S Corp provides corporate and pass-through entity benefits. When forming your S Corp, you will need to choose a name for your company. Your corporation name should be so unique that it could not possibly be confused with the name of another business. Once you've chosen your business name, you should add either the "Incorporated" or "Inc." designator.
When you are starting an S Corp, you will need to file Articles of Incorporation in the state where you want to form your company. Typically, this will be the home state of the business owner, which eliminates the need to file documents and pay fees in multiple states. If your business operates internationally, you should form your S Corp in a state that is friendly to businesses. Then, if necessary, you can register in other states as your business expands.
S Corporations, like all corporations, must appoint company leaders and hold regular meetings for directors and shareholders. The minutes of shareholder and director meetings should be recorded and then stored internally. When company bylaws need to be updated or stocks need to be transferred, this process must be formalized and fully documented. The shareholders of an S Corp must be either United States citizens or permanent residents, and the corporation cannot have more than 100 shareholders.
When you are setting up your S Corporation, you also need to be certain that any shareholder who is also employed by your company is being compensated reasonably. Even if your company is small and your shareholders limited, your employees must receive market wages. You cannot substitute a percentage of company profits distributed at year's end for a normal salary.
Articles of Incorporation should be filed with your state when forming an S Corp, and you should also be sure that you're paying any required fees. Once your company has been fully incorporated, you can file Form 2553 to elect your new status.
Additional steps required after incorporation include:
- Adopting bylaws
- Holding the first meeting of shareholders and directors
- Issuing company stock to owners
Incorporating an S Corp
The first step to incorporation is picking the state where you will form your company.
To make your decision, consider the following factors:
- Where will your business physically operate?
- Where will your employees be hired?
- Where will your bank accounts be located?
- In which states will your business accept orders?
After you've answered these important questions, you should write your corporate bylaws, making sure they describe how your company will operate and the duties and positions of your company officers. While your state may not require bylaws, it's a good idea to have these documents for internal use.
If you need help starting an S Corp, 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.