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What Is an S Corporation?

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What Is an S Corporation?

An S Corporation is a C Corporation that elects “Subchapter S” status. All S Corporations begin their lives as C Corporations; Corporations elect to change their status to S Corporations.

The S Corporation Election is made by the filing IRS Form 2553 before the expiration of the 15th day of the third month of its tax year. You make your election by using the instructions to Form 2553 here, and using the election form 2553 which you can find here.

S Corporation Requirements

Not all corporations are eligible to become S Corporations. S Corporations must

  • Have not more than 100 shareholders.
  • Be a corporation chartered in a US state–not in a foreign country.
  • The shareholders can only be live people, estates, and limited types of exempt organizations (i.e., no C Corps can be shareholders.
  • No nonresident alien shareholders.
  • Only one class of stock.
  • Not a bank, insurance company, professional corporation.

S Corporations are still corporations–they must make periodic filings in their states of organization, and they must meet corporate formalities.

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S Corporation Election

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How to Make the S Corporation Election

All S Corporations begin their lives as C Corporations–no Secretary of State in the US makes a distinction between S Corporation and C Corporation. The S Corporation election is just that: an election.

The S Corporation Election is made by filing IRS Form 2553 before the expiration of the 15th day of the third month of its tax year (i.e. March 15 for most folks). If you are late, don’t fret, but get on it, there is a special precedure, but you’ll need to beg–search the net for that info if you need it.

Elegibility for S Corporation Election

But before you file for S Corporation status, make sure your corp is eligible; the corporation must:

  • Have 100 or fewer shareholders.
  • Be a US corporation.
  • The shareholders can only be live people, estates, and limited types of exempt organizations (i.e., no C Corps can be shareholders.
  • No nonresident alien shareholders.
  • Only one class of stock.
  • Not a bank, insurance company, professional corporation.

To file your election, use the instructions to Form 2553 here, and file the election form which you can find here.

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Types of Corporations

When you form a business, you have several choices with respect to the type of corporation that you choose. In this post, we’ll break down the different types of corporations and the benefits and drawbacks of each.

C Corporation

The C Corporation is a default corporation–it’s what you get if you do nothing but file articles of incorporation and do nothing more. C Corporations are ancient types of entities that date back to Roman times. A C Corp is a standard manner of corporation: it is taxed like a corporation (it is taxed on its corporate profit separately from the wages or distributions made to its employees).

Because a C Corporation receives no special tax treatment, it enjoys more freedom in other respects. For example, a C Corporation can have an unlimited number of shareholders.

C Corporation shareholders and managers enjoy personal liability protection for ordinary debts of the Corporation.

S Corporation

All S Corporations begin their lives as C Corporations. A C Corporation becomes an S Corporation when the Corporation’s management elects S Corporation status. The S Corporation election is made with the US IRS, and no filing is necessary with the state of incorporation. The Form one files to make the S Corporation election is IRS Form 2553.

An S Corporation’s principal difference (some would say the only meaningful difference) to a C Corporation is that an S Corporation is taxed like a partnership–an S Corporation is not taxed–only the wages and distributions that an S Corporation makes to workers, managers, and shareholders are taxed. This manner of taxation is called “partnership taxation” and also called “pass-through” taxation.

S Corporations pay a small price for their favored tax status:

  • They can not have more than 100 shareholders.
  • Shareholders must be US citizens or residents.
  • S Corps can only have one class of stock (no preferred stock, or special voting stock, etc.).

Close Corporation

A Close Corporation, again, is simply a modified C Corporation. It is a Corporation owned (and typically run)  by a few individuals, typically members of the same family. Close Corporations are not authorized in all states.

State laws permit close corporations to function more informally than regular corporations. For example, shareholders can make decisions without holding meetings of the board of directors, and can fill vacancies on the board without a vote of the shareholders.

Professional Corporation

Unless you are a doctor, lawyer, or other licensed professional, you’ll not likely need to worry about Professional Corporations (sometimes called “PC”). A PC is a state-authorized legal structure created specifically for a narrow set of licensed professions.

Lawyers and doctors cannot avoid personal malpractice liability by hiding behind a Corporation. So, PC owners do not not enjoy liability protection for their own actions–they only enjoy liability protection for the actions of other shareholders.

Limited Liability Company

A limited liability company is not a type of corporation. A limited liability company is a wholly independent type of entity, authorized and governed by an independent statute, and independent rules. If you’d like to learn more about LLCs, read Limited Liability Company – Definition and Explanation.

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