S-Corps Basics

A growing small business with under 100 shareholders can elect to be an S-Corp. The basics pair well with a family owned business and companies wanting to avoid double taxation.

A growing small business with under 100 shareholders can elect to be an S-Corporation (S-Corp). The basics pair well with a family-owned business as well as companies wishing to avoid double taxation.

What is an S-Corp?

While the majority of corporations are C-Corporations, it’s not the only type of business structure available to corporations. Smaller corporations may benefit from electing to operate as S-Corporations. S-Corps contain the benefits of corporate protections, though not every corporation qualifies for S-Corp status.

S-Corps cannot have more than 100 shareholders. It must be domestic, and cannot have any shareholders that are not U.S. citizens or U.S. residents.

All shareholders must agree to elect as an S-Corp, and only a person can be a shareholder, thus excluding corporations or partnerships from being able to hold shares. However, a spouse, family, or estate can be defined as a single shareholder for S-Corp purposes, making it a good choice for family-owned businesses.

S-Corps stock issue

A key difference between an S-Corp and a C-Corp is the way in which stock is issued for an S-Corp. S-Corps can only have one class of stock, unlike C-Corps which allow for different classes of stock with varying rights and dividends. One class of stock means one set of distribution rights for shareholders. All shareholders are treated equally, although there can still be the designation of voting and non-voting shares of stock.

Electing S-Corp status

General for profit corporations, professional corporations, and LLCs can all elect for S-Corp status.

An S-Corp must go through all of the steps and formalities to incorporate as a C-Corp does. All shareholders must agree to elect to operate as an S-Corp and must file Form 2553 – Election by a Small Business Corporation – within 75 days of forming the corporation if it wishes to have that status immediately.

A C-Corp can elect for S-Corp status at other times as well. To convert from a C-Corp to an S-Corp for the following year, Form 2553 can be filed at any time prior to the start of that year. All shareholders must sign this form. If the shareholder resides in a community property state, the shareholder’s spouse must sign the form as well.

Meeting S-Corp requirements

Electing to operate as an S-Corp does not guarantee that it will remain so indefinitely. An S-Corp must adhere to the above-mentioned requirements to retain its S-Corp status, otherwise it will revert to a C-Corp. As corporations cannot be shareholders, this can limit to whom ownership can be transferred.