When incorporating a business, you would have the option to choose an S corporation or C corporation structure. The entity you select determines how much you would owe in taxes and how shareholders would interact with your business.
Although other corporate structures are also available, like B corporation and nonprofit corporation, S corp and C corp are common options for business owners. A C corp is the standard, default corporation that separates owners from the company. An S corp is also an individual entity separate from the owners, but S corps must follow different tax and shareholder guidelines.
Keep reading to learn about S Corp vs. C corp and how to choose the right corporate entity for your business.
Both types of businesses must be incorporated in the same way. You would need to register the business with state agencies wherever you conduct business, as well as file your articles of incorporation with your stateâ€™s secretary of state office. Corporations are also required to have bylaws, which act as the governing documents for the business, and file annual reports.
Also, an S corp and a C corp both protect owners from personal liability. Any type of corporation acts as an individual entity with its own rights and liabilities. Corporations can enter into contracts, get sued and sue others just as business owners can.
From there, S corps and C corps have distinct differences. Next, weâ€™ll discuss what sets one type of corporation apart from the other.
S corp: An S corp is considered a pass-through entity, meaning all company profits and losses would be passed through to the ownerâ€™s personal income. The business owner would pay taxes based on their personal income tax rate. S corps are not subject to corporate income tax. To become an S corp, the business would need to submit IRS Form 2553 and include signatures from all shareholders.
Under new tax laws that went into effect in 2018, owners of pass-through businesses can deduct up to 20% of their qualified business income. However, service- or trade-based businesses may be excluded from being eligible for the deduction. Companies that produce tangible goods, such as manufacturing companies, are more likely to qualify.
C corp: Unlike S corps, C corps must pay corporate income tax on profits. C corps are often subject to double taxation â€“ the corporation itself is taxed and shareholders must pay taxes on dividends on their personal tax returns.
The recent tax reform also brought changes for C corps. As of 2018, the top corporate tax rate is capped at 21%.
C corps and S corps may also be responsible for employment taxes and excise taxes, depending on the nature of the business.
S corp: Because of the legal cap on the number of shareholders, S corps cannot become public companies. If the company wants to go public, it would have to convert to a C corp structure.
C corp: A C corpâ€™s ability to have an unlimited number of stockholders makes it possible for the corporation to go public and raise investment capital.
Hereâ€™s a quick look at the main differences between an S corp and a C corp.
|S corporation||C corporation|
|Taxation||Pass-through entity â€“ Profits and losses are â€śpassed throughâ€ť to an ownerâ€™s personal taxes . Owners may deduct up to 20% of eligible income.||Double taxation â€“ Corporations must pay tax on profits and shareholders must pay tax on dividends. Corporate tax rate is capped at 21%|
|Ownership||Limited shareholders â€“ Restricted to 100 shareholders who must be U.S. citizens.||Unlimited shareholders â€“ No cap on the number of shareholders. Shareholders do not have to be U.S. citizens or residents. Corporation may go public.|
|Shareholder rights||Common stock â€“ All shareholders receive common stock, as well as disbursements of company profit. Voting power is tied to the amount of stock a shareholder possesses.||Varying types of stock â€“ Shareholders can receive different types of stock, which would affect voting power. Shareholders also receive dividends.|
For business owners looking for limited liability, a corporate structure could be a good entity choice. Whether you choose an S corp or C corp would depend on your aspirations for the corporation.
It is possible to change your business structure. You could change your entity at a later time if you want to switch between an S corp and a C corp. However, your state could impose restrictions when it comes to changing corporate structures. Consider seeking out a local business adviser, attorney or accountant to help you choose the right corporate structure for your business.
The information in this article is accurate as of the date of publishing.
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