We will discuss the last two of the five business structures recognized by the Internal Revenue Service (IRS) (Business Structures | Internal Revenue Service (irs.gov)) in this blog. Corporations (Forming a Corporation | Internal Revenue Service (irs.gov)) and S-Corporations (S Corporations | Internal Revenue Service (irs.gov)) involve shareholders rather than owners that the first three business structures have.
Prospective shareholders exchange money, property, or both for the corporation’s capital stock. Usually, a corporation takes the same deductions that a sole proprietorship takes in calculating its taxable income. A corporation can also take special deductions. A C corporation is recognized by the Internal Revenue Service (IRS) as a separate taxpaying entity for federal income tax purposes. Corporations can conduct business, pay taxes, realize net income or loss, and distribute profits to its shareholders. These calculations can be very complicated so it is best to consult a tax professional for help with employment tax.
Profits of corporations are taxed once to the corporation when earned and once to the shareholders when distributed as dividends. This creates a double tax on the profits. Corporations cannot deduct any taxes when it distributes dividends to its shareholders and shareholders cannot deduct any losses incurred by the corporation.
Corporations are liable for income tax, estimated tax, employment taxes (federal income tax withholding, social security and Medicare tax, and federal unemployment tax) and excise taxes. There are many different forms to use to report and file these taxes, making the process complicated. It is best to have help with payroll tax from a tax professional than attempting to calculate and report these taxes on your own.
For federal tax purposes, S corporations elect to pass income, deductions, losses, and credits through to their shareholders. Similar to partnerships, shareholders of S corporations report the “flow-through” of income and losses on their own personal income tax returns. They are then assessed tax at their individual income tax rates. This means that shareholders can pay different amount of taxes on their income depending upon their tax bracket. By allowing for the “flow-through” of income and losses, S corporations avoid the double taxation on the corporate income. However, S corporations are responsible for taxes on certain built-in gains and passive income at the entry level.
A corporation must meet the following requirements to qualify for S corporation status:
- Be a domestic corporation
- Have no more than 100 shareholders
- Have only one class of stock
- Have only allowable shareholders: a) individuals, certain trusts, and estates and b) not be partnerships, other corporations, or non-resident alien shareholders
- Not be an ineligible corporation, such as certain insurance companies, financial institutions, and domestic international sales corporations
Additionally, the corporation must submit IRS Form 2553 (Election by a Small Business Corporation) signed by all shareholders.
The American Rescue Plan
The American Rescue Plan (ARP) Act of 2021 allows small and mid-sized employers as well as certain governmental employers to claim refundable tax credits, reimbursing them for the cost of providing paid sick and family leave to employees due to COVID-19. This includes time given to employees to receive and recover from COVID-19 vaccinations.
The IRS recognizes that COVID has placed a burden on all businesses and individuals. Before closing a business, it is best to consult a tax professional. The IRS has tax credits and COVID relief resources for those affected by the virus. Contact Bullseye Tax Relief today!