An S Corporation is very much like a C Corporation and must follow the same initial steps to become a corporation, as well as one additional step to become an S Corporation. Again, in order to be an S Corporation, one does not have to be a big public company like Microsoft. In fact S Corporations are often small one-person companies, with that single person assuming all the roles, including Chief Executive Officer, the Chairman of the Board, and the sole shareholder.
As with the C Corporation, once you incorporate your business by filing the proper forms with the state you wish to operate in, you have created a separate legal entity. This essentially removes liability from you, and now the corporation is responsible for debts taken and mistakes made in its name. This does not mean you are completely free from responsibility for corporate debts and negligence, but generally, corporate officers or shareholders cannot be held personally liable for corporate actions.
One significant advantage of the S Corporation is that shareholders have limited liability. For example, if Robert invests $6000 into a corporation that eventually fails, he has lost only the initial $6000 dollars he invested; he is not responsible for any debt the corporation incurred. Furthermore, under the Internal Revenue Code, shareholders can deduct up to $3,000 per year in stock losses on their personal tax returns, carrying the balance over to future years for further deductibility.
Another benefit is that, within certain corporate restrictions, one may freely sell or give corporate stock to others. For example, Adam, who owns 200 shares of XYZ Corporation stock valued at $20,000, can sell 100 shares for $30,000 to Bob and give the remaining 100 shares to his daughter Carrie. One does not posses such a readily available option for transfer of ownership under a sole proprietorship or partnership. Corporations also have greater flexibility than other types of business structures, as they can purchase, hold, and sell property in the corporate name, raise capital using a variety of methods, and possess unlimited life, remaining unaffected by the death of a director, officer or shareholder, no matter what the size of the shareholder's ownership in the Corporation.
S Corporations are particularly attractive because they are not subject to the double taxation disadvantage associated with C Corporations. If you want the limited liability of a corporate structure, but avoid double taxation, consider forming an S Corporation. In order to qualify for this structure, your S Corporation must be organized under the laws of one of the states and it must have no more than 100 shareholders, all of whom are either U.S. citizens or legal permanent residents. Only individuals, estates or trusts may own stock in the S Corporation and the S Corporation may issue only one class of stock. Additionally, only U.S. citizens or legal permanent residents may be shareholders in an S Corporation.
The S Corporation has all the advantages that a traditional corporation offers, as well as the added benefit of being a tax-exempt entity. This is in sharp contrast to the separate taxpayer status held by regular corporations, which are subject to double taxation. S Corporations are, in effect, tax reporting entities, in which the income of the corporation flows through to the individuals as if the reporting entity was a partnership. In simplified terms, the S election treats the corporation as if it is a partnership for tax purposes.
However, many of the other disadvantages of incorporation still exist with S corporations. These include the various regulations S Corporations must follow and the costliness of setting up the corporation. Also, please note that the S Corporation cannot escape the franchise tax. S Corporations must pay the state's franchise tax.
Like the traditional corporation, the S Corporation is mainly identified by the inclusion of Incorporated, Corporation, or Company in its name. Major companies that exist currently, such as Coca Cola and Apple, are corporations. Furthermore, an S Corporation is only distinguishable from a C Corporation by the forms it has filed with the IRS. In order for one to become an S Corporation, one must file Form 2553 with the IRS.
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Limited Liability Companies
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