S Corporations are entities formed under the provisions of Subchapter S of the Internal Revenue Code and Massachusetts Corporation Law, Chapter 156D. These corporations differ from their C counterparts mainly by the fact that federal taxes are allowed to flow through to the shareholders. For smaller companies, this can mean a significant tax advantage, but it is advisable that anyone considering setting an entity up as an S corporation consult with a Boston tax lawyer first.
Flow-Through Taxation
In a sense, S corporations more resemble partnerships than their C counterparts in the way federal taxes are applied. All of the income, tax credits, and deductions flow through the entity to the shareholders. Thus, the double-taxation applied to C corporations is avoided. Shareholders then become personally responsible for reporting any income or loss to the IRS.
In Massachusetts, no state income tax is applied to an S corporation whose annual gross income is less than $6 million. However, an excise tax does apply. Other distinctions from their C counterparts are that S corporations are not subject to a limitation on the amount of charitable contributions that can be deducted. On the other hand, S corporations are not able to take advantage of a deduction for dividends received. This may all sound like an ideal option, but there are restrictions. A Boston tax lawyer will help you determine if this is right for your business.
Restrictions
An S corporation structure is only allowed for businesses with 100 or fewer shareholders. Thus, larger corporations generally cannot form this way. Moreover, the entity must have elected to be taxed under provisions governing corporations, and can only possess one class of stock. This can prove problematic for a company that forms under Subchapter S if it begins with nearly the limit of shareholders. This is because there is little room to expand and retain S status. The month that an S corporation takes on its 101st shareholder it automatically reverts to C status.
The profits and losses must be distributed in accordance with each shareholder’s interest in the company (number of stocks held). Shareholders must be real human beings (not partnerships, or other companies) and must be U.S. citizens. Finally, FICA and Unemployment taxes apply in the same way they do to C corporations.
For Further Information
The tax advantages of forming as an S corporation are numerous for small enterprises. If you are interested in forming or reforming under Subchapter S, or have other questions, call a Boston tax lawyer at Ionson Law for a consultation today at 781-674-2562.
