How is an S corp taxed?
Like partnerships, S corps are pass-through entities. This means that there are no federal taxes levied upon the corporation. Instead, the S corp passes on all profits directly to the shareholders, and then the shareholders are responsible for paying their own tax.Although there is not tax levied at the federal level, each state has its own rules for how S corps are taxed. For example, in California, S corps are taxed at 1.5%, whereas in New York, S corps are required to pay the full tax rate of 8.85%.Even though shareholders are responsible for their own tax on profits, any shareholder that is employed by the S corp is required to receive a “reasonable salary.” The salary is subject to normal employment taxes and withholdings. Salary paid to shareholder employees should be comparable to their duties and responsibilities, and should also take into consideration average market salaries.
Does an S corp need to hold annual meetings?
An S corp is required by state law to hold at least one annual shareholders' meeting. The purpose of this meeting is to elect a board of directors to handle the day-to-day running of the corporation and to settle any required corporate business. Although state law only requires one annual meeting, it is important to check the company bylaws as there may be self-imposed requirements to hold further meetings.
What is pass-through tax?
Pass-through tax refers to tax arrangements permitted to sole proprietorships, partnerships, and S corps. Under this arrangement, businesses are not directly taxed at the federal level; instead, all profits are “passed through” to the shareholders. Shareholders then pay taxes on a personal basis. Pass-through tax arrangements reduce the overall tax burden on the shareholder due to the corporation not paying income tax, therefore increasing the amount of profit given to the shareholders.
What documents are necessary to form an S corporation?
FormationTo form a corporation, you are required to complete the articles of incorporation and file it with the Secretary of State where the business is located. Some states call this document the certificate of incorporation.GovernanceOnce you have legally incorporated, there are optional documents that can help govern your business. The most important governing documents are meeting minutes, bylaws, and shareholder agreements.When you hold meetings of the board of directors, you should keep minutes of the board of directors.Bylaws set forth the basic rules and procedures for running the corporation.A shareholder agreement is a binding agreement between shareholders that defines their rights and obligations. Although this is an optional document, it will outline each shareholder’s distribution rights, voting rights, management rights and responsibilities, and more.OwnershipSince corporations have shareholders, you should keep records demonstrating the number of shares owned by each person or entity. A stock certificate records issuance of stock to shareholders, who may then use the certificates as evidence of stock ownership.
What is the difference between a C corp and an S corp?
The main differences between a C corp and an S corp are as follows:TaxationThe main consideration regarding taxes is that an S corp is treated as a pass-through entity, avoiding the double taxation that occurs with a C corp. With the traditional C corp setup, both the corporation and corporate shareholders are taxed on profits. However, pass-through taxation allows for the corporate entity to pass on all profits to its shareholders, making shareholders individually responsible for paying for business profits on their personal tax returns.OwnershipDue to the lenient tax arrangements of an S corp, company ownership is highly regulated. For instance, a shareholder must either be a US citizen or a resident alien. Also, a shareholder must be an individual and cannot be another corporate entity. Whereas a C corp may have unlimited shareholders, an S corp is restricted to 100 shareholders and therefore is better suited for smaller businesses.StockA C corp can issue multiple classes of stock, which will determine ownership rights. An S corp is limited to only issuing one class of stock, ensuring that all members are taxed in the same manner.BenefitsUnlike a C corp which can deduct costs for employee benefits, shareholders who are employed by an S corp and own over 2% of the company are not allowed to deduct the costs of any benefits.
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