Definition
An S Corporation, or S Corp, is a special form of corporation created through an IRS tax election. An eligible domestic corporation can avoid double taxation (once to the corporation and again to the shareholders) by electing to be treated as an S Corporation. In essence, an S Corp allows income, and futures gains and losses, to pass directly to the shareholders, in a fashion more typical of a partnership or sole proprietorship, while enjoying the benefits of corporate limited liability.
Examples
- Small Tech Start-Up: Five co-founders of a tech start-up form an S Corporation to benefit from single-level taxation while enjoying limited liability protection.
- Family-Owned Business: A family-operated retail store can be structured as an S Corporation, wherein all family members are treated as one shareholder for the purpose of IRS requirements.
Frequently Asked Questions (FAQs)
What are the eligibility requirements for an S Corporation?
To qualify for S Corporation status, the corporation must:
- Be a domestic corporation.
- Have only allowable shareholders which include individuals, certain trusts, and estates; not partnerships, corporations, or non-resident alien shareholders.
- Have no more than 100 shareholders.
- Have only one class of stock.
- Not be an ineligible corporation (e.g., certain financial institutions, insurance companies, and domestic international sales corporations).
How does the tax structure of an S Corporation differ from that of a C Corporation?
An S Corporation allows profits and losses to be passed through directly to the shareholders’ personal income without being subject to corporate tax rates, thus avoiding double taxation. In contrast, a C Corporation’s profits are taxed both at the corporate level and again at the individual level when distributed as dividends.
Can an S Corporation issue stock?
Yes, an S Corporation can issue stock, but it can only have one class of stock and is limited to 100 shareholders.
What are the tax filing requirements for an S Corporation?
An S Corporation must file IRS Form 1120S annually and provide all shareholders with a Schedule K-1, detailing their share of the corporation’s income, deductions, and credits.
Related Terms
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C Corporation: A standard corporation under IRS rules which is subject to corporate income tax and has no limits on the number of shareholders or classes of stock.
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Shareholders: Individuals or entities that own shares in a corporation and have a claim on a portion of the corporation’s assets and earnings.
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Double Taxation: A situation in which corporate earnings are taxed twice—once when earned by the corporation and again when distributed to shareholders in the form of dividends.
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Pro Rata: A proportional allocation or distribution, indicating each shareholder’s portion of income, deductions, credits, etc., based on their percentage ownership in the corporation.
Online References
Suggested Books for Further Studies
- “S Corporation: Small Business Start-Up Kit” by Alfred Mill – This book provides comprehensive guidance on forming and operating an S Corporation.
- “S Corporations: Tax and Legal Handbook” by Michael Schlesinger – A detailed exploration of the tax benefits and legal intricacies of S Corporations.
- “Tom Copeland’s 2019 Tax Companion for Family Child Care Providers” by Tom Copeland – While specialized, it offers accessible insights into the taxation of similar pass-through entities.
Fundamentals of S Corporation: Business Law Basics Quiz
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