Understanding S Corporations
- August 14th, 2014
- Comments Off on Understanding S Corporations
S Corporations are special types of corporations that differ from the traditional C Corporation structure. The designation of being an S Corp is given by the IRS, and its primary function is to prevent the company from being unnecessarily taxed twice, once to the corporation and then again to its shareholders. This means that S Corporations are classified similarly to C Corporations, but are then designated with a Subchapter “S.”
Just as any of the different kinds of partnerships or corporations, S Corporations have to be registered as a business in the state in which its headquarters is located first and foremost. After establishing itself as a business, it can be designated as an S Corporation, which means the company will be “considered by law to be a unique entity, separate and apart from those who own it,” as per the IRS.
The easiest way to think about an S Corp is merging the elements of partnerships and corporations. By that we mean that while S Corporations have similar structures as C Corporations, in that they can be publicly traded and have shareholders who hold their own stakes in the companies, but the company is not taxed as a separate entity, similarly to how partnerships are treated. The profits and losses of an S Corp are reported by the owners and shareholders of the company, and they are taxed accordingly on an individual basis. If any shareholders are also employees of the company, they need to be paid what the IRS calls “reasonable compensation,” or fair market value, in order to avoid the IRS classifying any additional corporate earnings as ‘wages.’
In order to form an S Corporation, you have to begin by checking to be sure that your business qualifies in accordance with the IRS stipulations. You initially file your company as a corporation, and then once you’re confirmed as a corporation, you can elect your company to become an S Corporation. In order to do that, you have to have all of your shareholders sign and file an IRS form (Form 2553) to show they’re all in agreement.
It’s important to remember that the state in which your business is registered will play a big part in the responsibilities and obligations that your company has to the government. Not all states tax S Corporations the same. Most states consider S Corps the same way that the federal government does, and taxes the shareholders in that way. On the other hand, some states, such as Massachusetts, tax S Corporations on any profits about a certain limit. Furthermore, there are some states that don’t even acknowledge the S Corp specification, and tax them the same way as C Corporations are taxed. In New York and New Jersey, the S Corp profits and the shareholder’s profits are both taxed.
Contact the tax professionals at JRH & Associates at (516) 794-5752 for answers to all of your questions regarding which type of corporation is right for your business!