S corp tax status is an attractive choice because it offers liability protection and tax savings while making it easier to transfer business interests. This federal status allows S corporation shareholders to avoid double taxation on any corporate income. Forming an S corp legally separates the business and its owners. S corps are suited for smaller, domestic businesses that want to treat all owners the same way.
Double taxation means revenue is taxed on both the corporate and individual income tax levels.
Avoiding Extra Taxes with S-Corp Status
The main benefit an S-Corp offers its owners is the ability to designate income from the S-Corp as salary or distributions. Owners of an S-Corp may draw a salary from the S-Corp and distribute remaining profits to the owners. The portion of the income that is designated as salary will be subject to Social Security and Medicaid taxes, but the portion that has been designated as profit distribution avoids these extra taxes.
An S-Corp is a special kind of corporation, only available to U.S. citizens and resident aliens, that offers the same legal protection as an LLC but often more tax savings. It also has some additional restrictions, making it not necessarily the best choice for partnerships or businesses with investors.
Both corporations and LLCs can choose to be taxed as S corps if they meet certain qualifications. In fact, a business can only elect an S corp after they’ve first registered as an LLC or other qualifying corporation.
If you’re on the fence about whether or not it makes sense to structure an LLC as an S-corp, it’s a good idea to speak to an accountant about the specific additional costs and the income threshold that justify the tax benefits of an S-corp.
Disadvantages and Suitability of S Corporations
What is the disadvantage of an S Corp? An S-corp may provide tax savings over other structures. However, it has restrictions. For example, it limits shareholders to 75.
Whether an S-corp makes sense depends on your situation. Consider expected income and expenses. Compare possible tax savings to S-corp costs. For lower or uncertain income, an LLC may be better. If income grows high enough, an S-corp could have more advantages.
Speak to an accountant to analyze specifics. If just starting out with uncertain income, wait on filing as an S-corp. Revisit when income increases.