S-Corporations: Your Shield Against Double Taxation
Understanding the benefits of S-Corporations can help you navigate the complexities of business taxation. After all, incorporation is one of our specialties, and many of our clients come to us because they want to incorporate their business. Incorporation helps protect you in the event of a lawsuit, and forming a separate business entity separates the company’s debts from your private assets.
However, our customers often ask us about a significant caveat to incorporation—double taxation. After you incorporate, your business has to pay taxes on any income it earns, subject to federal and state corporate income tax rates. Additionally, you still have to pay tax on income you earn from working for the corporation. Effectively, this taxes the same amount of income twice, which can be a heavy burden for many small business owners who may not have much extra capital.
Fortunately, there is a way to avoid double taxation: filing for S-Corporation status. This topic is the focus of our Business Basics post for this week, as well as S Corp requirements you should know about.
Unlocking the Advantages: Exploring the Benefits of an S Corp
Wondering how S-Corporations provide significant tax benefits for small businesses? Understanding these advantages can help you make informed decisions about your business structure.
Chapter 1, Subchapter S of the Internal Revenue Code allows smaller businesses to avoid paying federal, and usually state, corporate income tax. S-Corporations are the most popular type of corporation in the United States, with 61.9% of all active corporations filing Form 1120S to apply for S-Corp status.
In order to qualify, your corporation must have fewer than 100 shareholders and issue only one class of stock. If your corporation qualifies, you can file for S-Corp status, which will allow any income earned by the corporation to pass through the business, untaxed, directly to the shareholders. You, of course, still have to pay your personal income taxes, and by law must take a reasonable compensation as a wage. But your corporate income, in most cases, will stay untouched.
The Structure of an S Corporation
The pass-through structure of an S Corp, is only guaranteed at the federal level. You should also check with your state’s secretary or department of corporations to see whether or not the state respects the pass-through structure of an S-Corp. Most states do, but some still require some tax to be paid on corporate income. California, for example, levies a 1.5% income tax on anything earned by S-Corps in the state.
If you decide to elect S-Corp status, you must file S Corp taxes by completing Form 1120S by the 15th day of the third month of the tax year, or the government will tax your business as a standard C-Corporation. In addition to this, you have to adhere to all of the other regulations that you would with a standard C-Corp – that means holding shareholder meetings, board meetings, and filing an annual report.
Summary
Curious if an S-Corporation is right for your business? This structure offers unique benefits that can streamline your tax responsibilities.
S-Corporations are the perfect fit for those small businesses that are looking to raise money through selling a limited number of shares, but don’t want to pay income tax twice. The IRS has a handy site that lists all of the necessary forms and deadlines.
And, of course, if you have any questions about Corporations or S-Corporation elections, feel free to leave them in the comments below, or give us a call at 1 (877) 692-6772 – we’re happy to answer any questions you might have!