An
S corporation is a corporation that has elected
to have the corporation's income pass through
to the shareholders. An S corporation election
allows the shareholders to preserve the benefit
of limited liability for the corporate form
while at the same time being treated as partners
for federal income tax purposes. The S corporation
itself does not pay any income tax although
shareholders are required to file an informational
return with the IRS, similar to a partnership
tax return, to inform the IRS of each shareholder's
ownership interest in the S corporation.
An
S corporation election must be made with the
IRS by the 15th day of the third month of the
tax year to which the election is to apply by
filing IRS Form 2553. All shareholders must
sign the form. Once the election is made, it
continues until either the corporation is no
longer eligible or the corporation elects to
revoke such election by shareholders holding
a majority of shares outstanding on the date
of revocation.
Federal
S Corporation Election Form (IRS Form 2553)
is available for preview at the IRS website
at http://www.irs.gov/
To
be eligible for S corporation status, the corporation
must meet certain requirements, as follows:
- The
corporation may have no more than 75 shareholders;
- The
corporation may have only one class of stock,
although different voting rights among shareholders
are allowed;
- All
shareholders must be individuals;
- The
corporation must be formed in the United
States;
- No
shareholder may be a non-resident alien;
and
- The
corporation may not be an insurance company
or a domestic international sales corporation.
Benefits
of S Corporation Election
With
an S corporation election, the income, losses,
and other elements of tax treatment flow directly
to the shareholders without regard to the corporation
and serves to eliminate the double tax for distributions
to shareholders.
The
following is a list of instances in which S
corporation status offers great benefit:
- If
your corporation desires to retain earnings,
S corporation status can be used to avoid
penalty taxes that could be imposed on an
unreasonable accumulation of earnings;
- Tax
savings can be realized on all taxable income
of the corporation because individual tax
rates are lower than corporate tax rates;
- S
corporation status dramatically reduces
the potential problem of IRS claims of excessive
compensation of shareholder-employees;
- If
your corporation expects to generate capital
gain income, the S corporation can make
distributions to its shareholders and pass
the "capital gain character" of the income
directly to shareholders instead of distributions
to shareholders otherwise taxed as dividend
income; and
- If
your corporation will generate substantial
cash not used in the operation of the corporation,
that cash can be distributed to a shareholder
on the basis of his or her ownership interest
in the corporation and not as a taxable
dividend distribution.
Additional
information to assist you in determining whether
to elect S corporation status is available at
http://www.irs.gov/.
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