When you are starting your business or changing its structure, a common question to ask yourself is if you want to be an S corporation or C corporation. This is a very important step to take in your business because it implies how much you will pay for taxes, your ability to raise money, and how easy it will be to expand your business. We will review the differences between S corp and C corp structures to help you make the best decision for your business.
The Difference Between S Corporation and C Corporation
The main difference between S corp and C corp is taxes, S corps do not pay tax on their income and instead report the revenue as personal income. C corps pay tax on their income plus tax on the income you receive as an owner or employee.
- C corp formation is the default type of corporation whereas with an S corp, you need to file IRS Form 2553. There may be additional paperwork at the state level to be treated as S corp for taxes.
- C corps are subject to double taxation One at the corporate level when the owners file a corporate income tax return and another on the owner’ personal income tax returns. S corp is a pass-through entity for tax purposes where shareholders report their income and losses on their personal tax return. Owners only pay taxes once and are not subject to corporate tax.
- C corps are more flexible in ownership as they have no restrictions. You can as many shareholders as you want. Venture capital firms and angel investors prefer stock in a corporation. C corps can only have up to one hundred shareholders, and they must be United States citizens or resident aliens, whereas C corps are open to foreign investors.
The Similarities Between S Corporation and C Corporation
Although there a several differences, there are similarities between S corp and C corps as well. The biggest similarity is that shareholders enjoy limited liability.
Limited liability protection
- Corporations offer limited liability protection, so shareholders are not responsible for business debts and liabilities whether it is an S or C corp.
Separate legal entities
- Both are separate legal entities that are created by a state filing. This is when a company operates as a separate entity from its original company.
- The formation documents are called the Articles of Incorporation or Certificate of Incorporation and they are the same form. Filing for an S corp requires a bit more documentation but the Articles of Incorporation are the same.
- Both have shareholders, directors, and officers. Shareholders are the owners of the corporation, but the corporation owns the business.
Which Should You Choose?
Now you understand the differences and similarities of each, but which should you choose? Most owners opt for S corp to save on taxes but if you want to raise investor money and grow your business into a large company, a C corp is a better option.
Advantages of an S Corp
- Pass through taxation
- Deduction of business income
- Tax filing requirements
Advantages of a C Corp
- Easy to form
- Fringe benefits
- Charitable donations
- Easy to raise money
- No limit on shareholders
Disadvantages of an S Corp
- Hard to form
- Limited ownership
- Limited stock flexibility
- Tax qualifications
Disadvantages of a C Corp
- Double taxation
- No personal write-offs
The Bottom Line
The entity that you choose has a big impact on many aspects of your business. Now that you have a better understanding of their differences and similarities you can make a smart choice for your business. Weigh the advantages and disadvantages for each as well, they may help you come to a decision that will help meet your business needs and goals.