S Corps Explained

When we talk to sellers about their business entity or buyers ask about setting up their new business entity, there is often confusion between a C Corp, an S Corp, an LLC, and an INC. So, we thought we would attempt to clear it up once and for all, by explaining what they each are and how they work together. Of course, any decisions about what you should choose or how you should elect to be taxed, should always be a conversation to have with your CPA or a tax professional. 

 

Tax Designation

First of all, an S Corp is not a business entity that you can choose when setting up your company with the your State. When you go to register your new business and create your entity, an S Corp is not one of the choices. This is because an S Corp is a tax designation with the IRS (Internal Revenue Service). You must first create your business entity (most often an INC or LLC) and then you can file IRS Form 2553, Election by a small business corporation. This will then change the way your company is treated for tax purposes. Your business is still an INC or an LLC, but it can be recognized as an S Corp if you have filed the form and your status change has been accepted by the IRS. 

 

What Is an S Corp?

According to the IRS’s website, S Corps are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S Corps to avoid double taxation on the corporate income. S corporations are responsible for tax on certain built-in gains and passive income at the entity level.

 

C Corp vs INC vs LLC

If you elect to form a corporation, as opposed to an LLC (Limited Liability Company), then you are a C Corp or an INC. An INC is a C Corp, which is a legal structure for a corporation in which the owners, or shareholders, are taxed separately from the entity. C corporations, the most prevalent of corporations, are also subject to corporate income taxation. The taxing of profits from the business is at both corporate and personal levels, creating a double taxation situation. To avoid this double taxation, C Corps will often file for S Corp status. 

An LLC is a Limited Liability Company, which is a popular choice for business ownership. An LLC can be taxed as a sole proprietorship (if it’s a one member LLC), a partnership, a C Corp, or it can elect to file as an S Corp. If you set up your business entity as an LLC, speak to your accountant to get their advice on how your LLC should file their taxes. 

Hopefully this clears up some confusion, but if you need more explanations or advice about what to do with your entity, please reach out to your tax professional.