How to start an S-Corporation

The one question we get over and over again is how to start an S-Corp. Many times when people ask this question they don’t know exactly why they need an S-Corp but either someone has told them or their brother in law or neighbor has a S-Corp.

Forming a business entity is a personal decision that depends heavily on the unique combination of the owners, investors, nature of the business and specific business and financial objectives. There is no single cookie-cutter approach to forming a business entity. With that said, there are many advantages to an S-Corp. However, we would encourage anyone considering an S-Corp to also consider an LLC because the LLC structure shares many of the advantages of an S-Corp with fewer restrictions and less operational burden.

Here’s the quick comparison:

S-Corp

A so-called S-Corp is really just a traditional Corporation (an Inc.) which can be organized under the business corporation statutes of any State. If the Corporation meets certain requirements, they are permitted to submit an additional filing to the IRS (Form 2553) to have the Corporation taxed as a partnership which is referred to as “electing sub-chapter “S” tax treatment.” After this IRS filing is made, and approved by the IRS, the Corporation is commonly referred to as an S-Corp.

Advantages:

• A properly formed and maintained S-Corp provides personal liability protection for owners
• An S-Corp passes all income, loss, tax deductions and credits directly to shareholders (similar to a partnership) thus avoiding federal corporate tax

Limitations:

• An S-Corp must hold formal corporate meetings, maintain corporate minutes and strictly follow statutory compliance requirements.
• An S-Corp is limited to a maximum of 100 shareholders
• No shareholder of an S-Corp may be a non-resident alien
• All shareholders must be actual people (i.e. other business entities cannot own shares of an S-Corp)

Compare with LLC:

A Limited Liability Company is a form of business entity that is recognized in every state. An LLC may choose to be taxed as corporation or partnership. However, LLCs often have less formal compliance requirements because they are governed by an “Operating Agreement” which is like a private contract between the owners about how the business will be conducted. LLCs do not have as many controlling statutes that dictate how the business must be operated. Additionally, LLCs do not have the same ownership restrictions as an S-Corp.

Advantages:

• A properly formed and maintained LLC provides personal liability protection for owners
• An LLC may pass all income, loss, tax deductions and credits directly to its members (similar to a partnership) thus avoiding federal corporate tax
• LLCs have the option to be taxed as corporation or partnership
• LLCs normally have fewer and less formal corporate governance requirements
• LCCs have no restrictions on ownership (i.e. may have more than 100 owners and owners who are foreign nationals and or who are other corporations)

Limitations:

• An LLC must follow the corporate governance procedures outlined in their Operating Agreement.

The result is that if one or more of the owners will be non-US citizens, or other businesses, or if you desire less formal management structure, then the LLC may be a better choice than an S-Corp.

However, to SIMPLY answer the question “How to start an S-Corp” …

1. First, form a Corporation.
2. Second, ensure that your corporation and the owners meet the requirements for subchapter S treatment.
3. Third, file IRS Form 2553.

Good Luck. If you have additional questions or would like more information on either of these structures please add questions in the comment field below or contact us directly.

Tags: how to start a company, LLC, S-Corp, startup help