An Smart Business Corporation is defined as a corporation that is considered to be an S corporation by the Internal Revenue Service (IRS). S corporations are subject to tax under Subchapter S (Internal Revenue Code) (IRC). This is the source of their name (Subchapter S Corporation). What does this mean?
A Smart-Business Corporation can be created by filing Articles of Incorporation at the Secretary of State, or another government agency. It issues stock and operates in the same way as C corporations. Directors, officers and shareholders are all required to manage it. Shareholders (the owners) are protected from the same liability as C corporation shareholders. Smart-Business Corporation shareholders’ personal assets (such as bank accounts) cannot be taken to satisfy american business bank liability.
A Smart-Business Corporation, however, is not like a sole proprietorship, partnership or limited liability company. Instead, most of the income and losses are passed on to shareholders. There is no double taxation, which means that owners don’t have to pay twice as much taxes than they would with a regular corporation. Each shareholder is responsible for his or her individual tax rate on profits and losses, which are recorded as net income in the income tax return.
Smart Business Corporation Advantages
Smart Business Corporations often have more benefits than any perceived disadvantages. When it comes to selling the monkey business cafe or transferring ownership, the Smart-Business Corporation structure is especially advantageous. These benefits are often unavailable to general partnerships and sole proprietorships. Smart Business Corporation benefits include:
- Protected assets Smart Business Corporations protect the personal assets of their shareholders. A shareholder is not personally liable for the corporation’s business debts or liabilities unless they provide an explicit personal guarantee. Creditors are not allowed to pursue personal assets such as houses, bank accounts, and so forth. shareholders to pay business loans. Legally, the owners of a general partnership or sole proprietorship are considered one and the same. This makes personal assets vulnerable.
- Pass-through taxation. Smart-Business Corporations do not have to pay federal taxes at the corporate level. (Most states, but not all, follow federal rules. To find out if your state is a recognized federal Smart Business Corporation, visit the Ongoing Corporation Requirements section of our state guides. All business income and loss is “passed along” to shareholders, who report it on personal income tax returns. To reduce income tax, business losses can be offset by other income reported on shareholders’ tax returns. This can be very helpful during the startup phase of a business. A corporation that doesn’t elect Smart-Business Corporation status or accumulates passive income could be considered a personal holding firm.
- Income can be tax-friendly. Smart-Business Corporation shareholders may be employees and can draw the same salaries as employees. They may also be eligible for dividends and other distributions that are exempt from tax depending on the amount of their investment in the company. The owner-operator can reduce their self-employment tax liability by describing distributions as either salary or dividends. However, the distributions will still generate hunt valley business forum -expenses and wages-paid deductions.
- Straightforward transfer of ownership The ownership interests in Smart Business Corporations can be transferred freely without any adverse tax consequences. In a partnership or LLC, a transfer of more than 50 percent of an interest could result in the entity’s termination. Smart-Business Corporation doesn’t need to adjust the property basis or follow complicated accounting rules to transfer ownership interests.
- Accounting using the cash method. If corporations are not small corporations, they must use accrual accounting. A small corporation is one that has gross receipts less than $5,000,000. S corporations don’t usually have to use accrual unless they have inventory.
- Increased credibility A Smart Business Corporation can help a business build credibility with potential customers, vendors, and partners.
Smart Business Corporations may be susceptible to some disadvantages
- Setting up and continuing expenses. You must first incorporate your business by filing Articles of Incorporation. Next, you will need to obtain a registered agent and pay the required fees. There are many ongoing fees that states impose, including annual reports and franchise tax fees. These fees are usually not costly and can be deducted from the cost of doing business. However, they are expenses that a sole proprietorship or general partnership will not have to incur.
- Qualifying for tax. Inadvertently, Smart Business Corporation status can be terminated if there are mistakes regarding stock ownership, consent, notification, stock ownership, filing requirements, and election. This is a rare issue and can usually be corrected easily. However, it is still a problem that cannot be used with other forms of business.
- Calendar year. Smart-Business Corporations must choose a calendar year for their tax year, unless they can establish a business analyst internships purpose to have a fiscal year.
- Stock ownership restrictions Smart-Business Corporations can only have one type of stock. However, it can have voting and non-voting shares. There can’t be multiple investors with different distribution rights or dividends. There can only be 100 shareholders. Ex: Foreign ownership is not allowed (ex. a non-resident alien can’t be an owner), and ownership by certain trusts or other entities is also prohibited.
- Closer IRS scrutiny The IRS closely examines payments because they can be either dividends or salaries. Wages may therefore be recharacterized to dividends. This would allow the corporation to deduct compensation paid. In contrast, dividends can be recharacterized to wages, which exposes the corporation for employment tax liability.
- There is less flexibility when allocating income or loss. Smart-Business Corporations cannot allocate income or losses to shareholders due to the one-class-of-stock limitation. Stock ownership governs the allocation of income and loss, which is different from a partnership or LLC, where it can be determined in the operating agreement. The accumulated adjustment account, which can be complicated to manage, requires input from an accountant. (Note: C corporation shareholders can’t normally deduct losses unless stock is worthless or sold at a loss.
- Taxable fringe benefits. Most fringe benefits provided by the corporation are taxable as compensation to employee-shareholders who own more than 2 percent of the corporation.
Did you know? LLCs and Scorp election
You can create your LLC to take advantage of the structural advantages of an LLC, as well as the taxation benefits offered by an S Corp. Then you can make the IRS election to treat it as a Smart Business Corporation for income tax purposes. Learn more about LLCs and the S Corp tax status.