What is the Difference Between C Corp and S Corp: Everything You Need to Know
What is the difference between a C Corp and S Corp? There are a few, and knowing the differences can help you choose which business type you wish to run. The main differences pertain to taxes and ownership.3 min read
What is the difference between a C Corp and S Corp? There are a few, and knowing the differences can help you choose which business type you wish to run. The main differences pertain to taxes and ownership.
An Overview of C corporation vs. S corporation
The default formation for a business that incorporates is a C-Corp. C-Corps are standard corporations, while S-corps have elected a special tax status. After incorporation, a C-Corp can file for S-Corp status at any time, as long as it's still eligible to do so.
Business owners who wish to elect S-Corp status must file form 2553 with the IRS. They must also ensure all guidelines are met for this election. S-Corps are "pass-through entities," meaning the company itself is not taxed. Instead, owners report business income on their personal tax returns.
C-Corps are not pass-through entities. They're taxed twice: once at the corporate level and then at the individual level when dividends are distributed.
C-Corps and S-Corps share similarities in the following:
- Capital generation
If your business is small, you might prefer S-Corp status overrunning a C-Corp because you'll avoid double taxation. Many new corporations generally operate at a loss during their early years, so electing S-Corp status can be beneficial. Owners will be able to write off business losses on their personal tax income returns.
If you want to sell your business, selling as an S-Corp has advantages over a C-Corp. For one, an S-Corp's taxable gains are usually less than those of a C-Corp.
Differences in Taxation and Ownership
The main reason to elect for S-Corp status is the tax savings. There are significant differences in how S-Corps and C-Corps are taxed.
The profits of a C-Corp are taxed and reported on the company tax return. The profits that are left after taxes are distributed to shareholders in the form of dividends. Dividends are taxed again when shareholders report them on their personal tax returns.
S-Corps avoid this double taxation, and they're treated much like sole proprietorships or partnerships. An S-Corp's profits or losses pass through to the shareholders. Shareholders only pay tax on them once via personal tax returns.
Most states pass profits and losses this way to S-Corp owners, but a few states impose double taxation on S-Corps.
S-Corps are subject to the following restrictions:
- They can have no more than 100 shareholders.
- The company can't issue more than one class of stock.
- Shareholders in an S-Corp can't be non-resident aliens.
- Shareholders cannot be other S-Corps, LLCs, C-Corps, partnerships, or certain trusts.
These restrictions do not apply to C corporations, which is one reason C-Corps can grow into large enterprises. C-Corps also have more flexibility when it comes to selling shares of stock. Simply being able to have various classes of stock allows companies to raise capital from investors without having to give them voting rights in return.
Which Business Type Is Right for You?
Large corporations usually can't elect for S-Corp status, especially if they have global ambitions. Bigger corporations may not want the restrictions of a maximum of 100 shareholders or not being able to sell shares to non-resident aliens, along with the other restrictions that come with electing an S-Corp status.
Owners of small businesses typically like S-Corps because of the tax savings, while larger companies prefer being C-Corps because they have greater flexibility in raising capital.
Before deciding to form either an S-Corp or C-Corp, you should carefully consider a number of factors concerning your business. Think about how big you want your company to grow and how you want to raise capital.
Every business is different, and choosing solely based on tax savings isn't the best way to decide which type of business structure is right for you. You should think in terms of short-term as well as long-term goals. If you have no desire to expand past your community, an S-Corp may be perfect, but if you have global aspirations, operating a C-Corp will likely be a better fit.
If you need help with forming an S-Corp or C-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.