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Should I Get An S Corporation?


An S corporation is a special type of corporation created through an IRS tax election which we will discuss shortly. An eligible domestic corporation can avoid double taxation by electing to be treated as an S corporation.

To be considered an S corp, you must first form a business as a C-corporation in the state where it is headquartered. S corporations are "considered by law to be a unique entity, separate and apart from those who own it."

This limits the financial liability for which you (the owner, or "shareholder") are responsible. Nevertheless, liability protection is limited - which means that S corps do not necessarily shield you from all litigation such as an employee’s tort actions as a result of a workplace incident.

What makes the S corp different from a traditional c-corporation is that profits and losses can pass through to your personal tax return. Consequently, the business is not taxed itself. Only the shareholders are taxed. There is an important factor.

However, any shareholder who works for the company must pay him or herself "reasonable compensation." Basically, the shareholder must be paid fair market value, or the IRS might reclassify any additional corporate earnings as "wages."

Advantages of S-Corporation

Tax Savings - only the wages of the shareholder who is an employee is subject to employment tax. One of the best features of the S Corp is the tax savings for you and your business. While members of an LLC are subject to employment tax on the entire net income of the business, only the wages of the S Corp shareholder who is an employee are subject to employment tax. The remaining income is paid to the owner as a "distribution," which is taxed at a lower rate, if at all.

Business Expense Tax Credits - Some expenses that shareholder/employees incur can be written off as business expenses. Nevertheless, if such an employee owns 2% or more shares, then benefits like health and life insurance are deemed taxable income.

Independent Life - An S corp designation also allows a business to have an independent life, separate from its shareholders. If a shareholder leaves the company, or sells his or her shares, the S corp can continue doing business relatively undisturbed. Maintaining the business as a distinct corporate entity defines clear lines between the shareholders and the business that improve the protection of the shareholders.

Shareholders are typically not personally responsible for business debts and liabilities

Unlimited life extending beyond owner illness or death

Additional capital can be raised by selling shares of the corporation’s stock.

Pass-through taxation.

Remember - you must file a form 2553 with the IRS within the timeframe or you won't have an S corporation!

Disadvantages of S-Corporation

There are IRS imposes restrictions on S corporation shareholders:

Be a domestic corporation

Less than 100 shareholders

Be Individuals, certain trusts and estates

Cannot be non-resident aliens

Have only one class of stock

When you need an S-corporation attorney call 1-800-564-2707. general outside counsel

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