What’s an S Corporation, and Is It the Best Option for Your Business?

By QuickBooks

2 min read

An S corporation combines the limited liability protection of C corporations with the taxation benefits of a sole proprietorship, partnership or LLC. Some states, such as New York and New Jersey, do not recognize S corporation status and treat them like a C corporation. To learn about different business structures, check out our video series on choosing the right business entity for you.

A corporation must meet all of the following requirements to be eligible for IRS S corporation election:

  • Must only have one class of stock.
  • Must not have more than 100 shareholders.
  • All of the shareholders must be U.S. citizens or U.S. permanent residents.
  • All of the shareholders must be natural persons (i.e. other corporations, LLCs and partnerships are generally excluded).
  • Profits and losses must be allocated to shareholders proportionately to their ownership interests.

Check out the video below for a quick overview of S corporations, and continue reading for more info.

What Are the Benefits of S Corporations?

The benefits of S corporations include:

  • Limited liability: If corporate formalities are followed, shareholders will not be personally liable for the debts and obligations of the S corporation beyond their initial investment.
  • Preferable tax treatment: Business profits and losses “pass through” to each shareholder’s individual tax return, meaning they aren’t subject to the double taxation of C corporations.
  • Reduced self-employment taxes: If shareholders also work for the business, they could enjoy reduced self-employment taxes.

Why Should I Think Twice About S Corporations?

S corporations do have some disadvantages, such as:

  • Strict corporate formalities: Among other requirements, S corporations must have annual directors meetings, annual shareholders meetings, maintain corporate minutes and maintain a separate bank account.
  • Costly and tedious to set up: You have to file forms with your state and shell over a few hundred dollars to get started. You also have to elect S corporation status with the IRS.
  • Ownership restrictions: Only natural persons can be shareholders with maximum of 100, which could be troublesome if the business wants to bring in investors or go public.

S Corporations: The Best of Both Worlds

If you are interested in creating an S corporation, read our step-by-step guide. For a general summary of different business entities, see our video series on the different types of business structures.

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Information may be abridged and therefore incomplete. This document/information does not constitute, and should not be considered a substitute for, legal or financial advice. Each financial situation is different, the advice provided is intended to be general. Please contact your financial or legal advisors for information specific to your situation.

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