Due to their tax advantages, S companies are a popular choice among small business owners. However, things can become a little tricky if you own another S business. An S corporation may possess another S corporation. There are a few exceptions, but the short answer is no.
It’s crucial to comprehend how S corporations and C corporations differ in order to comprehend why one S corporation cannot possess another S business. When profits are dispersed as dividends to shareholders, they are taxed both at the corporate and individual levels. A C corporation is a commercial organization that is taxed independently from its owners. S corporations, on the other hand, are pass-through businesses, meaning that profits and losses are distributed to shareholders and are only subject to individual level taxation.
One of the key advantages of S corporations is that they can only have up to 100 shareholders, all of whom must be citizens or residents of the United States. An S corporation would break this regulation if it owned another S corporation since the shareholders of the first S corporation would be considered to be the second S corporation’s owners.
The section 1377 election is a notable exception to this rule. If the second S corporation satisfies certain criteria, such as having only passive revenue and deriving no more than 25% of its gross receipts from passive sources, the first S corporation may elect to own the second S corporation. In this scenario, the second S corporation would not be considered a separate entity from the first S corporation, but rather as a qualified subchapter S subsidiary (QSub).
It should be noted that the S company election only requires the assent of shareholders holding at least 50% of the outstanding shares of stock, and not all shareholders. To avoid any future issues, it’s generally a good idea to secure the agreement of all stockholders.
In conclusion, although though a S corporation cannot directly own another S corporation, there is an exception that permits ownership in certain situations. For some organizations, the section 1377 election might be a beneficial tool, but it’s crucial to confirm that all conditions are satisfied before making this choice. As usual, seeking advice from an experienced tax professional can help ensure that all applicable rules and laws are followed.
An S corporation’s rigorous eligibility rules, which include having no more than 100 stockholders and just one class of stock, are one of its drawbacks. S corporations are also restricted in the sorts of shareholders they may have and are not permitted to be owned by non-resident aliens, LLCs, partnerships, C corporations, or other S corporations. Additionally, compared to other business structures, S companies require more paperwork and formality, which can be onerous for certain small enterprises.