A few weeks ago, a prospective client called me and asked about converting his LLC to an S corporation. I am frequently asked what an S corporation is, and whether that is a business entity a small business owner can choose to form. In today's Freedom Friday blog, I am going to discuss what an S corporation is, and what it is not, and I am going to describe the requirements and advantages of S corporation status.
1. What is an S Corporation?
Before I explain what an S corporation is, it is important to understand what it is not. An S corporation is NOT a business entity. An S corporation is actually a tax election, and it can be elected for either a corporation or an LLC. If you're a small business owner, you can choose to form either an LLC or a corporation. Either way, you can elect S corporation for tax treatment from the Internal Revenue Service (IRS). If you don't elect S corporation status, then your LLC will be treated as a pass-through, or disregarded entity by the IRS, and alternatively, your corporation will be a “C corporation,” which can experience “double taxation.”
2. What are the Requirements for S Corporation Status?
In order to elect S corporation status for your small business, you need to file Form 2553 with the IRS. In addition, the entity can only have a maximum of 100 shareholders or members, the shareholders or members must be U.S. citizens and cannot be other corporations or partnerships, and the entity can have only one class of stock or ownership, there cannot be preferred stock giving special rights to shareholders.
3. What are the Advantages of S Corporation Status?
There are several advantages to electing S corporation status for your small business, the biggest advantage being possible tax savings. With S corporation status, there is a possibility that the shareholders or members can split their income. The shareholders or members can decide to take a reduced salary (it must be reasonable), pay income taxes, apply Social Security and Medicare taxes to the smaller salary, and take the remainder of their compensation as dividends for a corporation, or distributions for an LLC. Dividends or distributions are not subject to self-employment tax but remains subject to income tax on the personal tax return of each shareholder or member. Also, losses of the S corporation can be written off on the shareholder or member's personal tax return, which is an advantage for a startup company.
If you are interested in starting a small business anywhere in Oklahoma, or if you have a small business and you are looking to grow, please feel free to contact me at [email protected]. For more information about Liberty Legal Solutions, LLC, please visit our website http://www.libertylegalok.com.