Every entrepreneur wants nothing more than to see their new enterprise become a success, but with the growth of every new business, comes the growth of tax rates, too. With new businesses, or even those that are established but seeking to expand, taxes can become very complicated, and for that reason, many opt to form an S Corporation to take advantage of tax advantages while still being able to preserve ownership flexibility. But what is an S Corp?
S-Corporations explained:
A tax code put into law by Congress way back in 1958, S Corps were designed to encourage and offer support for the set-up of small and family run businesses, while getting rid of what standard corporations were subjected to: double taxation.
What makes S Corporations different to C Corps or LLC’s?
S corporations are not subjected to corporate income taxes as C Corps are, and instead are treated differently by the IRS in a way that usually favors the owner of the business. If you have a small business and choose to structure it as an S Corp, you will also be afforded more flexibility for managing ownership of the company.
In comparison to an LLC, S Corps can also be beneficial for the business owner in reducing their liability for self-employment taxes. When it comes to shareholders, those belonging to an S Corp will find their compensation subjected to self-employment tax, but those profits that are automatically designated to them, are not. In reducing the profits from your business that are subject to self-employment taxes by carefully choosing how you pay yourself and how your income appears on your personal tax return, you may be able to minimize your tax burden.
What are the main advantages of an S Corp?
Let’s look in a little more detail at some of the benefits business owners may gain if they choose to structure their company as an S-Corp:
- Advantages in taxes
Exempt from federal income tax (not including some specific capital gains and passive income), S-Corporations are pass-through entities and guaranteed to be taxed only once on their profits; at the level of shareholder. What this essentially means, is that S Corps are not required to pay a double taxation of dividends.
- Protection of assets
There are certain legal protections for personal assets in place for S Corps, which are deemed as separate from any assets belonging to the business.
- Options for income characterization:
If you’re the owner of an S Corp, the way in which you categorize your income is made more flexible, and you are permitted to be an employee of the business while paying yourself a salary. Additionally, you are allowed to pay yourself dividends from the S Corp distributions that are usually taxed at a lower rate than an employee’s salary or are tax-free.
- Ownership can be transferred easily:
The ownership interests of an S Corp are straightforward to transfer to other owners without resulting in bigger taxes or terminating the corporate entity.
While S Corps do give flexibility to the issue of ownership, and offer significant tax benefits, they may not be suitable for every business. To know more about whether an S Corp is the best choice for your small business, arrange to speak with a tax specialist who can explain the pros and cons in further detail.