The corporate business form is complicated, but incredibly useful for many types of business. Structuring a corporation can be complicated, of course, but when it comes to the way the business is taxed, there are two basic options.
The default option is the “C” corporation, unless an election is made for “S” status. Both forms of corporation offer limited liability for shareholders and various other benefits attributable to the corporation business form. Ultimately, a filing for S status comes down to a decision about how the corporation will be taxed.
Once of the negative aspects of taxation for C corporations is that they are subject to what is often called “double taxation.” This means that the corporation pays tax on its net income at the applicable corporate tax rate, and that shareholders also pay tax at an individual rate on the distributions they receive.
When an election is made for an S corporation, the shareholders report corporate income and losses through their own personal returns. Shareholders are taxed at their own individual rates. An S corporation is still responsible for paying taxes on passive income and certain built-in gains. A benefit, though, is that the corporation avoids double taxation on corporate income.
Whether or not an election for S status is appropriate depends on various factors, including the size of the business. For many small businesses, S corporation election is preferable since it allows for avoidance of double taxation and allows shareholders to personally claim losses.
Whatever the type of corporation, it is important for the business to understand the tax rules to which it is bound, and to maintain compliance with those rules. This requires accurate record-keeping and timeliness in filing tax returns. When questions or disputes arise regarding the corporation’s tax obligations, it is important to work with an experienced tax attorney who can help advocate for the business.