Incorporating as an C corporation (C Corp) or S Corp offers several advantages, including limited liability protection. In general, incorporating as a C Corp offers greater flexibility than an S corp, as you can choose to have different classes of shareholders, each with different voting rights. You are also allowed to have unlimited shareholders.
S Corporation Taxation
The biggest reason a business owner would choose to form an S corporation over a C Corp has to do with taxes. S Corps are usually exempt from federal income tax and are not taxed at the corporate level. This means an S Corporation has no double taxation like a C Corporation. It also means shareholders pay taxes on individual tax returns and the company passes losses and profits directly to shareholders. This is a clear advantage because you enjoy this same benefit when you form an LLC.
An S Corporation is required to pay employees a "reasonable salary." This salary is subject to Social Security and Medicare taxes. Profits are then distributed to shareholders in the form of dividends, with shareholders paying taxes on these dividends.
Whether or not shareholders receive their amount of dividends from the S Corp, they are taxed. This means shareholders of an S Corp can pay taxes on profits they never actually received but profits the company received.
C Corporation Taxation
C Corps are subject to double taxation. This means the company is taxed at the corporate level, and then shareholders pay taxes on the dividends on their personal tax returns. This isn't necessarily as bad as it sounds.
A C Corporation does not pay taxes on all of its revenue, as it can deduct business and operating expenses to reach a taxable income amount. Shareholders are only taxed for dividends that are actually distributed to them as well. If the C Corporation chooses to hold onto profits for operating capital, shareholders pay no taxes on the dividends. This differs from an S Corp, in which shareholders pay taxes whether or not dividends are distributed.
Owners of a C Corporation are only subject to double taxation when the company is profitable and distributes dividends. In many cases, C Corp owners choose to keep profits in the corporation rather than distributing them, as these profits may be taxed at a much lower rate.
Other Differences Between S Corps and C Corps
Taxation is not the only difference between an S Corp and a C Corp.
S Corporation Taxation
The biggest reason a business owner would choose to form an S corporation over a C Corp has to do with taxes. S Corps are usually exempt from federal income tax and are not taxed at the corporate level. This means an S Corporation has no double taxation like a C Corporation. It also means shareholders pay taxes on individual tax returns and the company passes losses and profits directly to shareholders. This is a clear advantage because you enjoy this same benefit when you form an LLC.
An S Corporation is required to pay employees a "reasonable salary." This salary is subject to Social Security and Medicare taxes. Profits are then distributed to shareholders in the form of dividends, with shareholders paying taxes on these dividends.
Whether or not shareholders receive their amount of dividends from the S Corp, they are taxed. This means shareholders of an S Corp can pay taxes on profits they never actually received but profits the company received.
C Corporation Taxation
C Corps are subject to double taxation. This means the company is taxed at the corporate level, and then shareholders pay taxes on the dividends on their personal tax returns. This isn't necessarily as bad as it sounds.
A C Corporation does not pay taxes on all of its revenue, as it can deduct business and operating expenses to reach a taxable income amount. Shareholders are only taxed for dividends that are actually distributed to them as well. If the C Corporation chooses to hold onto profits for operating capital, shareholders pay no taxes on the dividends. This differs from an S Corp, in which shareholders pay taxes whether or not dividends are distributed.
Owners of a C Corporation are only subject to double taxation when the company is profitable and distributes dividends. In many cases, C Corp owners choose to keep profits in the corporation rather than distributing them, as these profits may be taxed at a much lower rate.
Other Differences Between S Corps and C Corps
Taxation is not the only difference between an S Corp and a C Corp.
- Ownership. A C Corp allows for unlimited shareholders and it is a better option for large businesses. S Corps are limited to 100 shareholders, all of which must reside in the U.S. or be citizens. A C Corp can also be owned by an LLC, trust or another corporation, but not an S Corporation.
- Shareholder rights. C Corps can choose different types of shareholders. Shareholder votes may count for more or less than others. This allows early owners to have more say in voting and operation.