S corporations do not pay any income taxes Part 1

PAYS TUB MAKER Read an Introduction to Advantages of  being S Corporation

Introduction

A corporation is taxed on its income under corporate tax rules. When dividends to its shareholders, the shareholders include these already taxed amounts in their income. In effect, regular corporate income is taxed twice, once to the corporation and again to the shareholders. However, ¨ligible domestic corporations can avoid double taxation by electing to be treated as an S corporation under the rules of Subchapter S. Subchapter S provides an optional method of corporate taxation¨ through Read more §1379). It allows small business corporations to elect special tax treatment. Similar to partnerships, all items of income, deduction, credit, gain, and loss are passed through on a pro rata basis to the individual S corporation shareholders. In this way, the S corporation passes its items of income, loss, deduction, and credits ¨through to its shareholders to be included on their  Read more. In short, the S corporation is taxed like a partnership 1; ¨it pays no taxes, and its income and deductions pass through to the shareholders. In other respects, however, S corporations are taxed like C corporations¨.  Often, it is advantageous to be taxed as an “S corporation” rather than a “C corporation” (i.e., a corporation taxed under the rules of subchapter C). Understanding S Corporations

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Advantages

There are many advantages to an S corporation:

1. An S corporation can distribute its profits to shareholders with only a single tax, whereas a C corporation incurs a double tax because dividends are not deductible.

Note; Distributions of profits to shareholders, whether or not the shareholders are active in the business, are not subject to self-employment tax.

The Shady Side of S Corporation

2. The losses of an S corporation are currently deductible by shareholders;

Shareholders cannot deduct the losses of a C corporation. Thus, S corporations provide an opportunity for the owners of a new business who are anticipating initial losses in the early years to take advantage of both the limited corporate liability and the flow-through of losses. If a C corporation were used, losses could only be used as net operating losses by the C corporation.

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3. A new corporation may elect an S corporation in its initial year for its shareholders to utilize initial losses of the corporation, even though the shareholders may ultimately want to have the corporation taxed as a regular C corporation.

4. An S corporation is specifically exempted from the accrual method rules and can continue the use of the cash method of accounting if such method is otherwise available because of the nature of the business.

5. If an S corporation stockholder does not actively participate in the management of the corporation any income received will be passive and can be used to offset passive losses.

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S Corporation Types of Businesses

6. An S corporation provides a corporate shield for liability purposes for those taxpayers who want income and losses taxed to them, but who do not want the potential liability problems of a partnership.

7. A subchapter S corporation may adopt tax-deductible and non-deductible fringe benefit plans. However, there are special rules and limits applicable to such plans.

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8. An interest expense deduction is allowed for funds borrowed by a shareholder to purchase stock in an S corporation. Such interest constitutes business interest when the shareholder materially participates in the business.

9. Also, many difficult problems of C corporations are not problems for S corporations. For example:

(i) ¨An S corporation is not subject to the¨ alternative (Wikipedia) minimum tax; and

S corporation Wikipedia

(ii) The personal holding company tax under §541 and the accumulated earnings tax of §531 do not apply to S corporations.

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Advantages of an S Corporation

• Single Level of Tax on Earnings

• Limited Liability for All

• Shareholders

• Losses Can be Deducted by S/Hs

• Can Use Cash Method of

• Accounting

• No AMT, PHC, PSC or EAE Issues

• No Section 704(c) Problems

• The unreasonable compensation issue is reversed

• Distributions are tax-free

• Section 1244 is available        S corporation IRS

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