The Tax Cuts and Jobs Act has many business owners evaluating whether or not they have the right entity structure. The S corporation business structure offers many benefits, including limited liability for owners and no double taxation. But not all businesses are eligible – and, with the new 21% flat income tax rate that now applies to C corporations, S corps may not be quite as attractive as they once were. In this article, we will compare the benefits and shortcomings of a S corporation with other entity structures, as well as review the eligibility requirements of a S corp.
The primary reason for electing S status is the combination of the limited liability of a corporation and the ability to pass corporate income, losses, deductions and credits through to shareholders. In other words, S corps generally avoid double taxation of corporate income — once at the corporate level and again when distributed to the shareholder. Instead, S corp tax items pass through to the shareholders’ personal returns and the shareholders pay tax at their individual income tax rates.
C corps enjoy the advantages of tax-free employee fringe benefits. Now that the C corp rate is only 21% and the top rate on qualified dividends remains at 20%, while the top individual rate is 37%, double taxation might be less of a concern. To keep S corporations attractive, Congress enacted the new qualified business income (QBI) deduction, which can be equal to as much as 20% of QBI.
It is critical to run the actual figures, considering state taxes, to determine which structure will be the most tax efficient for you and your business.
S Corporation Eligibility Requirements
If S corp status makes tax sense for your business, you need to make sure you qualify – and stay qualified. To be eligible to elect to be an S corp, your business must:
- Be a domestic corporation and have only one class of stock
- No more than 100 shareholders
- Have eligible shareholders, including individuals, certain trusts and estates. Shareholders can’t include partnerships, corporations and nonresident alien shareholders.
S corp status isn’t the best option for every business. To ensure that you’ve considered all the pros and cons, contact your TDT tax advisor. Assessing the tax differences are unique to every business — especially with the tax law changes going into effect this year.
Want to learn more about what you should consider in your analysis of S corps or C corps? Check out our article, “Is It Time to Make a Change? C Corp vs S Corp”