S Corp tax planning

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S Corporation

An “S-Corporation” is a regular corporation that has between 1 and 100 shareholders and that passes-through net income or losses to shareholders.

Taxation of S-Corporations

Instead, an S-Corporation passes-through profit (or net losses) to shareholders. The business profits are taxed at individual tax rates on each shareholder’s Form 1040. The pass-through nature of the income means that the corporation’s profits are only taxed once – at the shareholder level. The IRS explains it this way: “On their tax returns, the S corporation’s shareholders include their share of the corporation’s separately stated items of income, deduction, loss, and credit, and their share of no separately stated income or loss.” S-Corporations therefore avoid the so-called “DOUBLE TAXATION” of income.

Eligibility Criteria for S-Corporations

A corporation may choose to be taxed as an S-Corporation if it meets the following criteria.

  • The company is a domestic corporation
  • The company has no more than 100 shareholders.
  • The only shareholders are individuals, estates, certain exempt organizations, or certain trusts.
  • The company has no partnerships, corporations or nonresident alien shareholders. (That is, the only shareholders are US citizens and resident aliens.)
  • The company has only one class of stock.
  • It is not one of the following ineligible corporations:
    • A bank or thrift institution that uses the reserve method of accounting for bad debts under section 585.
    • An insurance company subject to tax under subchapter L of the Code.
    • A corporation that has elected to be treated as a possessions corporation under section 936.
    • A domestic international sales corporation (DISC) or former DISC.

Corporations elect S-Corporation status using IRS Form 2553. Each shareholder at the time the form is filed must sign the form.

S corporation advantages:-

The S corporation structure can be especially beneficial when it comes time to transfer ownership or discontinue the business.

•      Protected assets:- An S corporation protects the personal assets of its shareholders.

•      Pass-through taxation:- An S corporation does not pay federal taxes at the corporate level. Any business income or loss is “passed through” to shareholders who report it on their personal income tax returns.

•      Tax-favorable characterization of income:- S corporation shareholders can be employees of the business and draw salaries as employees. They can also receive dividends from the corporation, as well as other distributions that are tax-free to the extent of their investment in the corporation.

•      Straightforward transfer of ownership:- Interests in an S corporation can be freely transferred without triggering adverse tax consequences. (In a partnership or an LLC, the transfer of more than a 50-percent interest can trigger the termination of the entity.)

S corporation disadvantages:-

An S corporation may have some potential disadvantages, including:

•      Formation and ongoing expenses. To operate as an S corporation, it is necessary to first incorporate the business by filing Articles of Incorporation with your desired state of incorporation, obtain a registered agent for your company, and pay the appropriate fees.

•      Tax qualification obligations. Mistakes regarding the various elections, consent, notification, stock ownership and filing requirements can accidentally result in the termination of S corporation status.

•     Stock ownership restrictions. There can’t be different classes of investors who are entitled to different dividends or distribution rights. Also, there cannot be more than 100 shareholders. Foreign ownership is prohibited, as is ownership by certain types of trusts and other entities.

•      Closer IRS scrutiny. Because amounts distributed to a shareholder can be dividends or salary, the IRS scrutinizes payments to make sure the characterization conforms to reality.

•      Less flexibility in allocating income and loss. Because of the one-class-of-stock restriction, an S corporation cannot easily allocate losses or income to specific shareholders.

Due Dates- For Corporations

  • Due date: 15th day of the third month after the close of tax year (Dec 31st Year end-due date March 15th)
  • Automatic Extension available for 6 months- use Form 7004(except for non-profit organization)
  • Tax payments must made using EFTPS or Tax deposit coupon -Form 8109-B

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