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Doctrines
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Limited liability · Ultra vires
Business judgment rule
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De facto corporation and
corporation by estoppel
Piercing the corporate veil
Rochdale Principles
Related areas of law
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An S corporation or S-corp, for United States federal income tax purposes, is a corporation that makes a valid election to be taxed under Subchapter S of Chapter 1 of the Internal Revenue Code. Companies law (or the law of business associations) is the field of Law concerning business and other organizations Generally a company is a form of Business organization. The precise definition varies A business (also called firm or an enterprise) is a legally recognized organizational entity designed to provide goods and/or services to A sole proprietorship, or simply proprietorship ( Benjamen Clark For partnership in cricket terminology see List of cricket terms A partnership is a type of Business entity in which partners In the commercial and legal parlance of most countries a general partnership or simply a Partnership, refers to an association of persons or an unincorporated A limited partnership is a form of Partnership similar to a General partnership, except that in addition to one or more general partners (GPs there are A limited liability partnership (abbreviated as LLP) has elements of Partnerships and Corporations. A corporation is a separate legal entity usually used to conduct business A C corporation (or C corp) is a Corporation in the United States that for Federal income tax purposes, is Taxed under and Subchapter C ( et A limited liability company (abbreviated LLC or LLC) in the law of the vast majority of the United States is a legal form of business Company The limited liability limited partnership (LLLP is a relatively new modification of the limited partnership a form of Business entity recognized under U A Series LLC is a special form of a Limited liability company that provides liability protection across multiple "series" each of which is theoretically protected A Nevada Corporation is a Corporation chartered under the Laws of the U A Massachusetts business trust or MBT is a legal trust set up for the purposes of business but not necessarily in the state of Massachusetts. A limited company in the United Kingdom is a Corporation whose liability is limited by law A private company limited by shares is a type of company incorporated under the laws of England and Wales, Scotland, that of certain Commonwealth countries In British or Irish Company law, a company limited by guarantee is an alternative type of Corporation used primarily for Non-profit A Public Limited Company ( PLC, plc or plc or p l c is a type of Limited company in the United Kingdom or the Republic of Ireland which is A proprietary company is a form of Corporation in Australia that is limited by Shares. A community interest company (CIC is a new type of company introduced by the United Kingdom government in 2005 under The Community Interest Act 2004, designed The European Economic Area ( EEA) came into being on 1 January 1994 following an agreement between member states of European Free Trade Association (EFTAthe The Council Regulation on the Statute for a European Company of the European Union was adopted October 8 2001. TemplateExpert and TemplateExpert-subject, has been modified to include two WikiProjects and Portals (Expert-subject is limited to Aktiebolag (literally " share Company " or " Stock Company " is the Swedish term for " Limited Aktiengesellschaft ('aktsiəngəzεlʃaft abbreviated AG) is a German term that refers to a Corporation that is limited by shares i An ansvarlig selskap is a Norwegian personal responsibility Company model mainly used in small-to-medium businesses which translates directly into "Responsible An Aktieselskab (abbreviated A/S) is the Danish name for a Stock -based Corporation. Aksjeselskap is the Norwegian term for a Stock -based Company. Gesellschaft mit beschränkter Haftung ( GmbH) is a type of legal entity very common in Germany (where it was created in 1892 Austria nl '''''Naamloze Vennootschap''''' (usually abbreviated NV) is the Dutch term for a Public Limited liability Corporation. Osakeyhtiö, literally a " stock company " is the Finnish equivalent of a Limited company ( Ltd or LLC) or Gesellschaft For the art organization see Société Anonyme (art SA generally designates Corporations in various countries mostly those employing There are many types of business entity defined in the legal systems of various countries Corporate governance is the set of Processes customs Policies, laws and institutions affecting the way a Corporation is directed administered or controlled Limited liability is a concept whereby a person's financial Liability is limited to a fixed sum most commonly the value of a person's investment in a company or partnership Ultra vires is a Latin phrase that literally means "beyond the powers" The business judgment rule is an American Case law -derived concept in Corporations law whereby the "directors of a corporation. The internal affairs doctrine is a Choice of law rule in Corporations law. De facto corporation and corporation by estoppel are both terms that are used by Courts to describe circumstances in which a business organization that has The corporate law concept of piercing (lifting the corporate veil describes a legal decision where a shareholder or director of a Corporation is held liable for the The Rochdale Principles are a set of ideals for the operation of Cooperatives. A contract is an exchange of promises between two or more parties to do or refrain from doing an act which is enforceable in a court of law Civil procedure is the body of law that sets out the process that Courts will follow when hearing cases of a civil nature (a " Civil action " as opposed to The A corporation is a separate legal entity usually used to conduct business The Internal Revenue Code (or IRC; more formally the Internal Revenue Code of 1986 as amended) is the main body of domestic statutory Tax law

In general, S Corporations do not pay any income taxes. Instead, the corporation's income or losses are divided among and passed through to its shareholders. The shareholders must then report the income or loss on their own individual income tax returns.

Contents

An overview of S corporations

S corporation provides many of the benefits of partnership taxation and at the same time gives the owners limited liability protection from creditors. The S corporation rules are contained in Subchapter S of the Internal Revenue Code (1361-1379). S status combines the legal environment of C corporations with taxation similar to taxation of partnerships.

S corporations are treated as corporations under state law. They are recognized as separate legal entities and generally provide shareholders with the same liability protection afforded by C corporations. For Federal income tax purposes, however, taxation of S corporations resembles that of partnerships. As with partnerships, the income, deductions, and tax credits of an S corporation flow through to shareholders annually, regardless of whether distributions are made. Thus, income is taxed at the shareholder level and not at the corporate level. Payments to S shareholders by the corporation are distributed tax-free to the extent that the distributed earnings were previously taxed. Also, certain corporate penalty taxes (e. g. , accumulated earnings tax, personal holding company tax) and the alternative minimum tax do not apply to an S corporation.

Unlike C corporation, an S corporation is not eligible for a dividends received deduction.

Unlike C corporation, an S corporation is not subject to the 10 percent of taxable income limitation applicable to charitable contributions.

Qualification for S corporation status

In order to make an election to be treated as an S corporation, the following requirements must be met:

If a corporation meets the foregoing requirements and wishes to be taxed under Subchapter S, its shareholders may file Form 2553: "Election by a Small Business Corporation" [4][5] with the Internal Revenue Service (IRS). Tax forms in the United States are used by taxpayers and tax-exempt organizations to report financial information to the Internal Revenue Service (IRS The The Form 2553 must be signed by all of the corporation's shareholders. If a shareholder resides in a community property state, the shareholder's spouse generally must also sign the 2553. Community property is a Marital-property regime that originated in civil law jurisdictions and is now also found in some Common-law jurisdictions

The S corporation election must typically be made by the fifteenth day of the third month of the tax year for which the election is intended to be effective, or at any time during the year immediately preceding the tax year. Congress has directed the IRS to show leniency with regard to late S elections. Accordingly, often, the IRS will accept a late S election.

Some states such as New York and New Jersey require a separate state-level S election in order for the corporation to be treated, for state tax purposes, as an S corporation.

If a corporation that has elected to be treated as an S corporation ceases to meet the requirements (for example, if as a result of stock transfers, the number of shareholders exceeds 100 or an ineligible shareholder such as a nonresident alien acquires a share), the corporation will lose its S corporation status and revert to being a regular C corporation.

Taxation issues

The S election affects the treatment of the corporation for Federal income tax purposes. The election does not change the requirements for that corporation for other Federal taxes such as FICA and Federal unemployment taxes.

FICA

As is the case for any other corporation, the FICA tax is imposed only with respect to employee wages and not on distributive shares of shareholders. The Federal Insurance Contributions Act (FICA tax ( is a United States payroll (or employment Tax imposed by the federal government on both employees Although FICA tax is not owed on distributive shares, the IRS and equivalent state revenue agencies may recategorize distributions paid to shareholder-employees as wages if shareholder-employees are not paid a reasonable wage for the services they perform in their positions within the company.

Distributions

Actual distributions of funds, as opposed to distributive shares, typically have no effect on shareholder tax liability. The term "pass through" refers not to assets distributed by the corporation to the shareholder, but instead to the portion of the corporation's income, losses, deductions or credits that are reported to the shareholder on Schedule K-1 and are shown by the shareholder on his or her own income tax return. However, a distribution to a shareholder that is in excess of the shareholder's basis in his or her stock is taxed to the shareholder as capital gain.

Conversion from C Corporation

S corporations that have previously been C corporations may also, in certain circumstances, pay income taxes on untaxed profits that were generated when the corporation operated as a C corporation. A C corporation (or C corp) is a Corporation in the United States that for Federal income tax purposes, is Taxed under and Subchapter C ( et This is very common with uncollected accounts receivable or appreciated real estate.

Example: If an S corporation that was formerly a C corporation sells an appreciated asset (such as real estate) and the appreciation occurred during the time the corporation was a C corporation, the S corporation will probably pay C corporation taxes on the appreciation--even though the corporation is an S corporation. A C corporation (or C corp) is a Corporation in the United States that for Federal income tax purposes, is Taxed under and Subchapter C ( et A C corporation (or C corp) is a Corporation in the United States that for Federal income tax purposes, is Taxed under and Subchapter C ( et A C corporation (or C corp) is a Corporation in the United States that for Federal income tax purposes, is Taxed under and Subchapter C ( et This Built In Gain (BIG) tax rate is 35% on the appreciated property, but is only realized if the BIG property is sold within 10 years.

Taxation of S Corporation Distributive Share

While an S corporation is not taxed on its profits, the owners of an S corporation are taxed on their proportional shares of the S corporation's profits.

Example: Widgets Inc, an S-Corp, makes $10,000,000 in net income (before payroll) in 2006 and is owned 51% by Bob and 49% by John. Keeping it simple, Bob and John both draw salaries of $94,200 (which is the Social Security Wage Base for 2006, after which no further Social Security tax is owed). For the Old Age Survivors and Disability Insurance (OASDI tax or Social Security tax the Social Security Wage Base (SSWB is the maximum earned gross income or upper threshold

Employee salaries are subject to FICA tax (Social Security & Medicare tax) --currently 15. The Federal Insurance Contributions Act (FICA tax ( is a United States payroll (or employment Tax imposed by the federal government on both employees 3 percent--half of which is paid by the employer and half by the employee. The distribution of the additional profits from the S-Corp will be done without any further FICA tax liability.

Widgets Inc now has $9,797,187 of net income for 2006, after paying salaries ($10,000,000 - $94,200 * 1. 0765 [employer FICA] * 2 employees). On Bob's personal tax return, he will report $4,996,565 of business income (in addition to his $94,200 salary), and John will report $4,800,622. Also, remember that Bob and John each had the employee half of the FICA tax withheld from their salaries (94,200 * 0. The Federal Insurance Contributions Act (FICA tax ( is a United States payroll (or employment Tax imposed by the federal government on both employees 0765 = 7,206. 30 each. )

If for some reason, Bob (as the majority owner) were to decide not to distribute the money, both Bob and John would still owe taxes on their pro-rata allocation of business income, even though neither received any cash distribution. Pro rata is an adverb or adjective meaning in proportion. The term is used in many legal and economic contexts and sometimes spelled pro-rata. To avoid this "phantom income" scenario, S corporations commonly use shareholder agreements that stipulate at least enough distribution must be made for shareholders to pay the taxes on their distributive shares.

Quarterly estimated taxes must be paid by the individual to avoid tax penalties, even if this income is "phantom income".

Bob and John will recognize significant tax savings compared to drawing the remainder of the business income as a salary subject to FICA taxation. While they have paid the maximum salary for which Social Security tax is assessed, there is no wage base for the continuation of the 1. 45 percent Medicare tax portion of FICA. By avoiding the employer and employee portions of FICA on this amount (2. 9 percent) they will together save a total of $284,118.

The difference would be even greater, percentage-wise, if Bob and John were paying themselves less than the Social Security Wage Base, as the Social Security portion of FICA is 12. 4 percent (total for the employer and employee halves).

IRS Study of S Corporation Reporting Compliance

In 2005, the IRS launched a study to assess the reporting compliance of S corporations[6]. The study will examine 5,000 randomly selected S corporation returns from tax years 2003 and 2004, with audits expected to begin in late 2005. The IRS intends to use the results to measure compliance in recording of income, deductions and credits from S corporations, and to formulate future audit criteria to better target likely non-compliant returns. This is part of a larger IRS effort to improve tax compliance and reduce the estimated $300 billion gap in gross reported figures each year. A large portion of that gap is thought to come from small businesses, and particularly S Corporations, which are now the most common corporate entity, numbering over 3 million in 2002, up from about 750,000 in 1985.

Filing Form 1120S

Form 1120S generally must be filed by March 15th of the year immediately following the calendar year covered by the return or, if a fiscal year (a year ending on the last day of a month other than December) is used, by the 15th day of the third month immediately following the last day of the fiscal year. The corporation must complete a Schedule K-1 for each person who was a shareholder at any time during the tax year and file it with the IRS along with Form 1120S. The second copy of the Schedule K-1 must be mailed to the shareholder.

Some but not all states recognize a state tax law equivalent to an S corporation, so that the S corporation in certain states may be treated the same way for state income tax purposes as it is treated for Federal purposes. A state taxing authority may require that a copy of the Form 1120S return be submitted to the state with the state income tax return.

California, New York City additional taxes

S-corps pay a franchise tax of 1. 5% of net income in the state of California (minimum $800). California ( is a US state on the West Coast of the United States, along the Pacific Ocean. This should be taken into consideration when deciding on using a Limited liability company versus an S-corporation in California. A limited liability company (abbreviated LLC or LLC) in the law of the vast majority of the United States is a legal form of business Company On highly profitable enterprises, the LLC franchise tax fees, which are based on gross revenues (minimum $800), may be lower than the 1. 5% net income tax. Conversely, on high gross revenue businesses, the LLC franchise tax fees may exceed the S corp net income tax.

In New York City, S-corporations are subject to the full corporate income tax at a 8. 85% rate. However if the S-corporation can demonstrate that a portion of its business was done outside the city, that portion will not be subject to the additional tax.

References

  1. ^ 26 U.S.C. § 1361(b)(1)(A)
  2. ^ a b Recent Reform and Simplifications for S Corporations
  3. ^ 26 U.S.C. § 1361(c)(6)
  4. ^ http://www.irs.gov/pub/irs-pdf/f2553.pdf
  5. ^ http://www.irs.gov/pub/irs-pdf/i2553.pdf
  6. ^ http://www.irs.gov/newsroom/article/0,,id=141441,00.html IRS Launches Study of S Corporation Reporting Compliance

External links

The Internal Revenue Code (or IRC; more formally the Internal Revenue Code of 1986 as amended) is the main body of domestic statutory Tax law The Internal Revenue Code (or IRC; more formally the Internal Revenue Code of 1986 as amended) is the main body of domestic statutory Tax law
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