Many people wonder the differences between a C corporation and S corporation when they choose to incorporate their business. Below we will discuss these differences in detail in an easy to understand format.
A C corporation is generally considered the standard corporation; however, it is normally used by big businesses. By comparison, business entities like sole proprietors, S corporations, and limited liability companies are designed for freelancers and small businesses, as well as businesses not looking to raise capital in the public markets.
The main advantages of using a C Corporation are:
1. Limits the liability of its shareholders, assuming adequate capital is allocated to the corporation and proper formalities are followed throughout the life of the corporation.
2. There is no limit on the amount of people who can own stock in a C Corporation; this is not the case in an S corporation.
3. The corporation has the ability to issue multiple classes of stock
4. If the C Corporation is publicly shared, shareholders can easily trade their interest in the corporation.
5. There is no shareholder level tax against undistributed income.
6. The IRS allows reduced rates on capital gains against a sale of qualified small business stock.
7. C Corporation allows ordinary loss deductions in situations in which a small business corporation fails
The main disadvantages to using a C Corporation are:
1. The C Corporation is subject to what is known as double taxation
2. There is a lack of rate differential for capital gains
4. Operating losses do not pass through to shareholders
C Corporation has their advantages and disadvantages like anything else. It is important to consider them careful for the specific needs of the business in which you intend to start. Every business is going to have different goals and objective, knowing exactly how you wish to operate your business will determine whether a C Corporation is the right structure for you.
An S Corporation is a type of corporation that is known for its ability to allow a pass through taxation structure. Generally, an S corporation needs to file Form 1120S (U.S. Income Tax Return for an S Corporation), but in general does not pay an income tax. Like a partnership, the income, expenses, gains, losses, credits, ect. pass through to the shareholders.
Generally, the advantages of using an S Corporation are:
1. You avoid having the corporation taxed twice, once at the corporate level and again at the shareholder level
2. Limits employment taxes to reasonable salaries drawn by owners
3. Losses, up to the shareholders basis may offset income from other sources
4. Owners limit personal liability
The main disadvantages to using an S Corporation are:
1. A S Corporation cannot distribute profits unevenly like an LLC can
2. Fridge benefits are limited to shareholders who own more than 2% of the shares
3. The number of shareholders that can own an S Corporation is limited to 100
4. A S Corporation is limited to only one class of stock
An S Corporation is a very attractive option for small businesses because it gives them many advantages that they would be unable to use if they had chosen a C Corporation. Again, it is always best to understand your goals and objectives that you intend your business to fulfill prior to choosing the business structure. There is no best entity choice; there is only a best entity choice for the owner’s unique needs.