What is an ‘S’ corporation? It is a corporate organizational structure for operating a business that uses subchapter S of the Internal Revenue Code.
Corporation
What is a corporation? It is an organizational structure. A legal entity with separate and distinct identity from its owners. They are created by state, or rather statutory law. Corporations have the same legal rights and responsibilities as individual persons.
Owners are called stockholders, and they elect a board of directors to manage the corporation. The board of directors hires officers to run the day-to-day operations. Because it is a separate legal entity, a corporation can enter into contracts, own property, and be sued in its own name.
Corporations offer limited liability protection for their stockholder owners.
Stockholders can dissolve a corporation. When this happens, assets are either liquidated or distributed among its stockholders according to their ownership interests. A certificate of dissolution is normally filed with the Secretary of State.
Income Taxes
S corporations do not file their own tax return. They do not pay income taxes. They file an ‘information’ return known as form 1120S. Profits and losses are passed through (disregarded) to the stockholders on form K1.
Stockholders receiving a K1 include these profits and losses on schedule E of their personal tax return form 1040.
Personal Finance
When earning a ‘reasonable’ salary from an S corporation you will get a W-2 statement. You can also earn dividends and take profit distributions which can avoid self-employment taxes. This potential shifting of income for tax avoidance is one reason why S corporations have a higher audit profile.
When qualifying for a loan the lender will want to see both your corporate and personal tax returns. You can also list the stock on your personal financial statement.
Unlike generous non-taxable fringe benefits for C corporations, they are mostly taxable benefits for S Corporations. Examples include health insurance, travel, moving expenses.
Stockholders
Who can be a stockholder? Permanent Residents or citizens of the United States. A maximum of 100 stockholders. Your living trust may own stock by ‘electing small business trust’ – or ESBT.
Organization vs Tax Classification
Any corporation, limited liability company or business trust is an organizational structure. Yet they’re all eligible for the optional ‘S’ income tax classification. The organization structure itself is independent. Both parts are connected as one.
Who For
What’s the ideal use of a corporation using the S Corporation? Professionals or Consultants selling ‘services’ who prefer cash income.
Standard Corporation Risks
- Business identity theft – a serious problem that can have devastating consequences for companies of all sizes. Not only can it lead to financial losses, but it can also damage a company’s reputation and business relationships. In many cases, business identity theft occurs when an employee’s personal information is stolen and used to open new accounts or obtain credit in the business name. It is a standard disclaimer on most Secretary of State Business Portal websites.
- Corporate veil – the potential for a court to strip away owners limited liability in the event of debt or liability lawsuit. This can happen if the company is found to have engaged in fraudulent or illegal activity, comingled personal and business assets, or unable to pay its debts. Or the company has failed to keep all statutory records (about 90% of all). When the corporate veil is pierced, owners and directors can be held personally liable for its debts and liabilities. They might need to sell their personal assets to repay creditors.
- Annual Filing Obligation – corporations are required to file articles of incorporation with the secretary of state, a time-consuming and expensive process. Annual updates are required.
- Franchise Taxes – corporations in most every state are obligated to pay the annual franchise tax. If unpaid, taxes accrue until satisfied. Officers of the company can be held personally liable.
- Online Visible – any registered corporation is easily found on the internet and Secretary of state’s website. Also called the SOS business search. All relevant filing details are disclosed.
How to Get the Benefits of the S Corporation Without the Hassles
S Corporations do have many hassles. Here is a short list of them:
- Secretary of State Registration & Updates
- Resident Agents for Legal Service
- Statutory Recordkeeping for Veil Safety
- Franchise Taxes and Gross Receipts Tax
- Online Visibility of your Company Details
- Business Identity Theft
Fortunately, it is possible to get all of the benefits of an S Corporation without the hassles and risks. This is doable with a Business Trust Company, as it avoids all of the hassles and risks listed above and it’s private.
To learn more about the Business Trust Company GO HERE.