Difference between S Corporation and C Corporation
The United States tax code recognizes two primary types of business entities: S Corporations and C Corporations. While both offer distinct advantages and disadvantages, understanding the difference between them is crucial for entrepreneurs and investors. This article delves into the key distinctions between S Corporations and C Corporations to help you make informed decisions about your business structure.
S Corporation
An S Corporation, as defined by the IRS, is a corporation that elects to be taxed under Subchapter S of Chapter 1 of the Internal Revenue Code. This election allows the corporation to pass corporate income, deductions, credits, and other tax attributes through to shareholders for federal tax purposes. Here are some key features of an S Corporation:
1. Pass-Through Taxation: Unlike C Corporations, S Corporations do not pay federal income tax at the entity level. Instead, profits and losses are passed through to shareholders and reported on their individual tax returns.
2. Shareholder Limitation: An S Corporation can have no more than 100 shareholders, and all shareholders must be individuals, estates, certain trusts, and certain tax-exempt organizations.
3. One Class of Stock: S Corporations can issue only one class of stock, which means that all shareholders must be treated equally for tax purposes.
4. Self-Employment Tax: Shareholders who work for the S Corporation are required to pay themselves a “reasonable compensation” for their services, which is subject to FICA taxes. However, distributions to shareholders are not subject to FICA taxes.
5. No Double Taxation: Since S Corporations do not pay corporate income tax, there is no risk of double taxation on earnings.
C Corporation
A C Corporation is a standard corporation that is taxed under Subchapter C of Chapter 1 of the Internal Revenue Code. C Corporations are subject to double taxation, as income is taxed at the corporate level and again at the shareholder level when distributed as dividends. Here are some key features of a C Corporation:
1. Double Taxation: C Corporations are subject to double taxation, as income is taxed at the corporate level and again at the shareholder level when distributed as dividends.
2. No Shareholder Limitation: Unlike S Corporations, C Corporations can have an unlimited number of shareholders, and there is no restriction on the types of shareholders.
3. Multiple Classes of Stock: C Corporations can issue multiple classes of stock, allowing for different voting rights and dividends.
4. Self-Employment Tax: Both salaries paid to employees and distributions to shareholders are subject to FICA taxes.
5. Fringe Benefits: C Corporations can provide certain fringe benefits to employees, which may be tax-deductible for the corporation and tax-free to the employees.
Conclusion
In conclusion, the main difference between S Corporations and C Corporations lies in their tax treatment and structure. S Corporations offer pass-through taxation and simpler shareholder requirements, while C Corporations provide flexibility in terms of shareholders and stock classes. The choice between the two depends on various factors, such as the type of business, the number of shareholders, and the company’s long-term goals. It is advisable to consult with a tax professional or legal advisor to determine the most suitable business structure for your specific needs.
