Unlike a C-Corporation, S-Corporations receive special tax status with the IRS. S-Corps provide the same limited liability protection as C-Corporations and the owners / shareholders are not typically responsible for any business liabilities or debt. But S-Corporations do not pay tax at the business level, they file an informational tax return and any business income/loss is reported on the owners’ personal tax returns. Any tax due is paid at the individual level.
Pros and Cons of S-Corp Setup
Pros of S-Corporation:
Limited liability protection. Owners / shareholders are not typically responsible for any business liabilities or debt.
Self-employment tax savings. A S-Corporation can offer self-employment tax savings, since owners who work for the business are classified as employees.
Eliminate double taxation: Unlike a C-Corp, in an S-Corp all profits and losses are passed through to shareholders and taxes are paid on an individual level (only once).
Easy transfer of ownership. Ownership is easily transferable through selling stock.
Unlimited life. When an owner becomes ill or dies, the corporation continues to operate.
Raise capital more easily. Additional capital can be raised by selling stock. Venture capitalists are also more interested in S-Corporations because there is more flexibility in making ownership arrangements.
Credibility. Corporations may be perceived as a more professional/legitimate than a sole proprietorship or general partnership
Lower audit risk. Generally, S-Corporations are audited less frequently than sole proprietorships.
Cons of S-Corporation:
Ownership restrictions: Limited to 100 owners / shareholders or less. Must be U.S. citizens/residents (cannot be non-resident aliens). Owners cannot be corporations, limited liability companies (LLCs), partnerships or certain trusts.
Shareholder restrictions: The shareholders of an S-Corporation will be taxed for their portion of any income the company receives, even if they didn't get any of that income. (In a C Corporation, shareholders are taxed only if they receive dividends.) In addition, S-Corps are only allowed to issue one class of stock, which may discourage some investors.
Salary requirements: The IRS requires all officers and owners of an S-Corporation to make a salary, even if the company is not yet making a profit. This could be problematic for new businesses struggling to make a profit.
Complicated rules and paperwork. Corporations are required to hold formal board and shareholder meetings and keep accurate minutes of these meetings. In addition, there are a series of tax forms that may need to be filed with federal, state, and possibly even local governments. The tax forms for corporations can be very complicated and this may require the help of an experienced accountant.
How to Start a S-Corporation
To form a S-Corporation, "Articles of Incorporation" must be filed with the state and all the necessary state filing fees must be paid in full. In addition, Form 2553 must be filed with the IRS in order to elect S-Corp status. Upon incorporation, you are also required to hold an initial meeting of directors and shareholders, adopt bylaws and issue shares of stock to owners. Let us help you get started >
