If your business is registered as a Limited Liability Company (LLC) or a C Corporation, you have some flexibility in how your business income is taxed. With the option of filing IRS Form 2553 to get S Corporation tax treatment, you might be able to decrease the tax dollars you’re obligated to hand over to Uncle Sam.
Every business’s situation is somewhat unique, so there’s no guarantee tax treatment as an S Corp will be the right option for you. But you might consider looking into it further given the potential benefits.
S Corporation Election For LLCs
Because LLCs are normally taxed like sole proprietorships (i.e., all business profits are subject to Social Security and Medicare taxes), LLC owners sometimes find themselves slammed with self-employment tax. But with choosing the S Corp election, they can potentially reduce that burden. S Corp tax treatment changes how those self-employment taxes are applied—only wages and salaries are subject to them. Profits taken as distributions to LLC members/owners are not.
S Corporation Election for C Corporations
Without the S Corporation election, C Corporations experience double taxation. This is because a C Corp is an entity that’s completely independent of its owners. As a result, a C Corp’s income is taxed twice:
1. The corporation needs to file a tax return and pay taxes on the profit it makes.
2. When profit distributions are made to the corporation’s shareholders, that income is taxed a second time on the shareholders’ personal tax returns.
If your business is a C Corporation and you opt to be treated as an S Corp for tax purposes, your business would not file its own taxes. Instead, your company’s shareholders would report their individual shares of the profits and losses on their personal tax returns.
So, say you own 75 percent of your S Corporation and someone else owns 25 percent; you would then need to pay tax on 75 percent of your company’s profits and the other shareholder would need to pay tax on the other 25 percent. With that income taxed as a profit distribution rather than as wages and salaries, you might get an attractive tax rate. Of course, any income you take as compensation for working for your business would still be subject to Social Security and Medicare taxes. There’s no avoiding that!
How And When To File For The S Corporation Election
For any business to get S Corp tax treatment, it must file IRS Form 2553.
If You Have An Existing Company…
File anytime during the tax year if you want the election to be effective in the next tax year. For an S Corp election to be made effective in the current year, you need file for it within two months and 15 days after the beginning of the tax year.
If You’re Starting A New Company…
If you’ve launched a new business, you have 75 days from the date of your incorporation to file Form 2553. Meet that deadline, and you’ll get S Corp tax treatment starting in your first tax year.
Do Your Homework And Don’t Lose Track Of Time
If you’re considering the S Corporation election, take a closer look at IRS Form 2553 for additional details, including eligibility restrictions and deadlines. And as with any matter that might affect your business legally or from a tax perspective, I encourage you to talk with your tax advisor and legal counsel to determine what impact the S Corp election will have on your business. If you discover it will help your company, pay attention to the filing deadlines so you can take advantage of the benefits sooner rather than later. To make sure you file your Form 2553 correctly, consider enlisting the help of a business filing service that has the experience and expertise to handle the task quickly and accurately.
The above content should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation.
