Small Business Corporation (often called an “S-Corporation”)

What is it?
An S-corporation is a business corporation that has filed an election with the IRS to be treated as a “flow through” entity for income tax purposes. An S-corporation must meet certain requirements, including limits on the number and type of shareholders, before it can elect “S” status. Unlike a C-corporation, an S-corporation may only have one “class” of stock with the same distribution rights for all shareholders, although both voting and non-voting shares of stock may be issued.

How is it formed?
An S-corporation is formed in the same manner as a C-corporation.

How is it taxed?
Once “S” status is elected, the corporation avoids double taxation. Taxable items “flow through” to the shareholders and are taxed only once at the shareholder level. The “flow through” of income for an S-corporation is similar to a partnership, but several tax rules (e.g., the “passive” activity and “self-employment” tax rules) may treat S-corporations and partnerships differently. For this reason, it is important to analyze the owners’ income tax treatment before determining which “flow through” entity type should be formed for a new business.

Who uses it?
Private businesses that are “closely held” by a small number of individuals that want to avoid the double taxation of a C-corporation, such as family owned businesses in manufacturing, retail sales, or other high risk industries where the corporate form of ownership is preferred for liability protection.