Taxation of S Corporations
An S corporation (S Corp) is taxed at the owner level, not the business level. The S corp income passes through to the owner’s tax return as salary and distributions. The owner’s salary pays employment taxes and income tax, while distributions only pay income tax at the shareholder level. This leads to S corp tax savings.
If an S corp earned passive income or sold assets for a profit, shareholders might owe taxes due to the switch from C to S corp status.
Key Differences Between S and C Corporations
C corporations can have foreign owners, unlimited shareholders, and multiple classes of stock. S corps, on the other hand, must meet requirements like a maximum of 100 shareholders. Owners report income on their personal returns and don’t pay self-employment tax on profits.
- S corps do not have their own separate tax rate. The rates are the same as personal income tax rates.
- S corps may have to make quarterly estimated tax payments if the total is over $500.
Corporate Advantages and Tax Rates
C Corporations:
- Can have foreign owners, unlimited shareholders, and multiple classes of stock.
- As of 2020, have a 21% federal tax rate.
S Corporations:
- Pass all income directly to owners to report on personal returns.
- Do not have a separate tax rate; they pay personal income tax rates.
Deductions and Tax Filing for S Corps
Ordinary business expenses can be subtracted from S corp profits to determine net income. If this is negative, it passes through as a deduction to shareholders.
- S Corps must:
- File returns even with no income.
- File Form 2553 and 1120-S.
- Follow guidelines, like having a maximum of 100 shareholders.
- Pay payroll taxes on owner wages.
What Can an S Corp Deduct?
Expenses like rent and interest can be deducted from S corp profits to determine net income.