An S corporation is created by filing Articles of Association with the secretary of state or any similar government body. It issues its stocks and is governed and run like a corporation. The owners, who are known as shareholders has similar protection from liability as the shareholders of a C corporation. The assets of the business in an S corporation can never be seized to fulfill business needs.
In an S corporation, the income and losses are passed on to the shareholders and every shareholder is responsible to pay his own individual tax. There is no double taxation like a C corporation where you are taxed twice, one at the corporate level and second at the individual level.
Advantages of an S corporation outweigh its disadvantages. This structural shows its benefits especially when the business is about to end or the ownership is being transferred. Advantages available to S corporation are usually not available to general partnerships or sole proprietors.
In S corporation assets of shareholders are protected. Even if the company fails, shareholders are not required to liquidate their assets and pay off their liabilities like in sole proprietorship.
Taxes are not paid on corporate level by S corporation. All business income and losses are passed onto shareholders who then report it in their personal tax returns. This is beneficial in the situation where the shareholder has a business loss. He can set off his business loss with other income of his.
Shareholders of S Corporation can make themselves employees of the corporation and draw salaries in the capacity of an employee. They also get dividends from the corporation and distribute other income as well. These are tax-free amounts to the extent of every shareholders investment in the corporation. Ordinary income tax would be paid on distributed portion and self-employment tax would be paid on income received as salary. Hence substantial amount of self-employment tax could be saved by registering as S Corporation.
Transfer of S corporation can easily be made without any negative tax consequences.
Along with many advantages S corporation formation has disadvantages as well.
It may appear that S Corporation saves most of the self-employment tax and ultimate payment of tax is reduced. Actually S Corporation may cost you more than it has saved in the form of start-up costs. It has the same start-up costs like other incorporations. Moreover, S Corporation may have to bear additional taxes in some states unlike sole proprietors.
Since tax liability can be evaded by wrongly classifying self-employment income in to salaries, so IRS has to scrutinize closely whether true classification has been made. If wrong classification has been made, it may result in additional cost such as fines.
S corporation can only issue one type of stock unlike other corporations such as LLC.
For specific discussion of which structure is best for you, you must consult a professional and act upon his opinion.
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