Sunday, August 2, 2009

How To Start A Business as a "S" Corporation

Suppose you can answer every personal tax problem that comes your way. Your friends and family call you to prepare their income tax returns because they are unhappy with their present tax return preparer. Word gets around that you are extremely good at taxes and soon their friends start calling you, and they’re willing to pay for your services. You figure if you do this a few evenings a`week, you could make a nice profit. After, doing some research into the different types of business structures, you decide that an "S" corporation would be the best type of business structure to operate under. The first reason why you chose a corporation is that you want protect your home, bank accounts and other personal assets against lawsuits made against the business. The second reason is that you don't want to be taxed at the corporate level and the shareholder level.

An S corporation is a regular corporation that has elected "S corporation" tax status. Forming an S corporation lets you enjoy the limited liability of a corporate shareholder but pay income taxes as if you were a sole proprietor or a partner.

An S corporation is a pass through entity. In a pass through entity all business profits "pass through" to the owners, who report them on their personal tax returns in the same matter as in sole proprietorships, partnerships, and LLCs. The corporation itself does not pay any income tax, although an S corporation with more than one owner must file an informational tax return, like a partnership or LLC, to report each shareholder's portion of the corporate income.

In order to create an S corporation, you must first create a regular corporation by filing articles of incorporation with your secretary of state's office. All shareholders must sign and file IRS Form 2553 in order to operate as a "S" corporation. The election should be made by

  • No more than two months and 15 days after the beginning of the tax year the election is to take effect, or
  • any time during the tax year preceding the tax year it is to take effect.
To qualify for S corporation status, the corporation must meet the following requirements:
  • Be a domestic corporation
  • Have only allowable shareholders including individuals, certain trust, and estates and
    may not include partnerships, corporations or non-resident alien shareholders
  • Have no more than 100 shareholders
  • Have one class of stock
  • Not be an ineligible corporation i.e. certain financial institutions, insurance companies, and domestic international sales corporations.
If anyone of these requirements are not met the "S" corporation status will be revoked by the IRS. For example, if your company was operating as an "S" corp and added 10 new shareholders so that the total amount of shareholders now exceed 100, then the "S" corporation status can be revoked.

An "S" corporation owners are called shareholders, and each shareholder includes his or her share of the corporation's income or loss on his or her tax return using Form 1040 and Schedule E. If you do business as a "S" corporation, the corporation will need to complete Form 1120S for and a 1120 Schedule K-1 for each shareholder. The corporation will be liable for paying employment taxes if it hires employees, and certain excise taxes. Since the corporation is a seperate legal entity, the shareholder(owner) does not have to pay self employment taxes. Some of the forms you will need for employment taxes are Form 940, Form 941, Form 943, and Form 8109-B.

The advantages of doing business as a "S" corporation are:

  • Corporate losses can be passed through to the shareholders, and as a shareholder, you may be able to take the loss against income that appears on your personal return.
  • You can have the protection of limited personal liability without having to pay corporate taxes.
  • You can minimize self-employment tax and FICA tax.
The disadvantages of doing business as a "S" corporation are:

  • Numerous regulations and requirements must be upheld by an S Corporation.
  • Like a C Corporation, it can be costly to set up and follow corporate formalities.
  • Close scrutiny by the IRS of shareholder-employees, who must receive reasonable compensation.

1 comment:

tigerram said...

Great article. You must gater material to write a book. Like "Better business Practices for the Graduated Dummy"