The knowledgeable San Diego business lawyers at Gehres Law Group provide assistance with the incorporation process. Incorporation provides substantial benefits, including protection against personal liability for business obligations and enhanced flexibility on taxes. However, there are different types of corporations and you must research your options carefully to select the corporate form that is most appropriate for your situation.
Differences Between an S corp and a C corp
Incorporating businesses often evaluate the various advantages between operating as a C corporation or operating as an S corporation. The different corporate forms are named for the different sections of the Internal Revenue Code explaining each type of entity. For tax purposes, a corporation is treated as a C corporation by the IRS unless the organization files Form 2553, Election by a Small Business Corporation.
Even if you choose to operate as an S corporation, your first step will typically involve filing articles of incorporation forming a C corporation with the California Secretary of State to form either type of entity. Once, the articles have been approved, only then will the incorporator make the S corporation tax election with the IRS. This is confusing to many new business owners, who mistakenly believe that an S corporation is a separate type of entity formed with the Secretary of State’s office. It is not. It is simply a tax election which provides for different tax treatment for the business entity.
There are important differences between S and C corporation treatment, including the following:
- C corporations and S corporations are taxed differently
C corporations are taxable entities and must file a corporate tax return. The corporation itself pays taxes on profits. When corporate funds are distributed to owners (shareholders), double taxation may occur since the shareholders must also pay taxes on those distributions.
In contrast, tax treatment as an S corporation provides that the corporation does not pay a separate income tax. Instead, S corporations file informational returns, but the corporation itself pays no federal or state income tax and the owners declare profits and losses on their personal returns. Because S corporation owners have the option of avoiding FICA taxes on distributed profits, many owners of S corporations involved in the operation of their business pay themselves a reasonable salary and then take distributions which are not subject to Social Security and Medicare taxes.
- C corporations and S corporations have different ownership rules
There are no restrictions on who can own shares in C corporations but there are ownership restrictions for S corporation status. LLC’s, certain trusts, and both C corps and S corps cannot be owners of an S corporations. While C corporations can issue different classes of stock, S corporations can only issue one class of stock.
Owners of S corporations must be U.S. citizens or resident aliens. No such restriction is applicable to C corporation shareholders. S corporations are also not permitted to have more than 100 shareholders, while an unlimited number of shareholders can own an interest in a C corporation. For additional information on the benefits of electing S corporation status, click here.
C corporations provide much more flexibility in ownership than S corporations, which can make C corps the best option for a company that is rapidly growing and/or the owners hope to one day take public, which would make it possible for shares of ownership in the stock to be traded on a public stock exchange.
Choosing the best form for your business will have a profound impact on many future decisions. Getting legal help is advisable to weigh each option and determine which corporate form is best in your particular situation.
Getting Help from San Diego Business Attorneys
The trusted and knowledgeable San Diego business attorneys at Gehres Law Group, P.C. provide personalized help with the choice of corporate form to individuals and businesses forming or reorganizing a corporate entity or relationship, such as a partnership. If you are considering incorporating your company or reorganizing, give us a call at 858-964-2314 or contact us online today to find out how our legal team can help guide you through the process.