For the purpose of federal taxation, a S Corporation, also referred to as a S Corp, is a form of corporation that has chosen to have its income, losses, deductions, and credits pass through to its shareholders. In other words, because a S Corp does not pay federal income tax at the corporate level, it is a pass-through corporation. Instead, “passed through” to the shareholders and reported on their individual tax returns are the S Corp’s earnings or losses.
Being a S Corp has many benefits, one of which is pass-through taxation. An S Corp’s income is only taxed once, at the level of the individual shareholders, as opposed to a C Corp, which is taxed twice. The business owners may save a lot of money on taxes as a result of this. An additional benefit of being a S Corp is that, like a C Corporation, it offers its shareholders limited liability protection.
However, not all companies have the option of becoming a S Corp. The company must be a domestic corporation, have no more than 100 shareholders, only allowed stockholders (individuals, estates, and certain trusts), and only one class of stock in order to be eligible. Additionally, several sectors are not permitted to be S Corps, including the financial and insurance industries.
A pass-through entity tax, also called an entity-level tax, is imposed by a number of states. Pass-through entities, such as partnerships and S Corps, are able to pay state income tax at the entity level rather than passing it through to the individual shareholders or partners thanks to this sort of tax. Businesses that operate in states with high personal income tax rates may find this to be advantageous.
The states of Connecticut, Louisiana, Maryland, New Jersey, Oklahoma, Rhode Island, and Wisconsin will all impose a pass-through entity tax starting of 2021. The pass-through entity tax is optional in some of these states but required in others.
In conclusion, a S Corp is a pass-through corporation for federal tax purposes that permits the income, losses, deductions, and credits to be passed through to its shareholders. The business owners may save a lot of money on taxes as a result of this. Several states also impose a pass-through entity tax, which is advantageous for companies doing business in jurisdictions with high personal income tax rates. But not every company may choose to be a S Corp, and some sectors aren’t allowed. To decide if a S Corp is the right option for your company, it’s crucial to speak with a tax expert.