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I often get questions about S-Corps when discussing new business formation with clients. An S-Corp isn’t actually an entity choice, it’s a tax classification. When you create a new business, chances are you’ll be creating either an LLC or C-Corporation. Once you chose between those two entities, you have to decide how you want to be taxed. That’s where the S-Corp comes in.
The S-Corp provides certain tax benefits. Unlike a c-corporation, the s-corp itself does not make taxes. The profits and losses are passed onto the partners, who list the profits and losses on their personal tax returns. This contrasts with a c-corp, which pays taxes on the entity level. Since the shareholders of a c-corp must also pay taxes, the result is referred to as “double taxation.”
To become an S-Corporation, you must file a Form 2553 with the IRS. You must also meet eligibility requirements:
- No more than 100 shareholders
- The shareholders are all individuals, trusts, or certain exempt organizations
- All shareholders are U.S. citizens or resident aliens
- The entity has only one class of stock
Most startups should begin as a c-corp. S-corps are not permitted to make public offerings, and the limitation on the number of shareholders will deter many investors.
As with any legal or financial decision, make sure to speak with a professional to make sure you make the best choice for your own business.