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What is an S Election?

An S Election is a tax designation elected by a corporation or LLC to be treated as an S Corporation for tax purposes. The IRS Form 2553 is filed to make this election, which allows the company's income to be taxed at the shareholder level.

The Process of S Election

The S election is a tax election made by certain corporations for the purpose of being taxed as a Small Business Corporation (SBC). To make an S election, a corporation must be a Domestic Corporation in good standing with the Internal Revenue Service (IRS) and must have fewer than 100 shareholders. A C Corporation or a Limited Liability Company (LLC) can elect S corporation status.

An S election is made on Form 2553, which must be filed timely with the IRS. The proper time to file an S election varies, depending on the current tax year. In most cases, the election must be made on or before the 15th day of the 3rd month of the tax year. If the election is made after the due date, it will not be valid for that tax year in most cases.

When making an S election, the corporation must also meet the other requirements of Subchapter S of the IRS code. These requirements include having a single class of stock, no more than 100 shareholders, all shareholders are individuals, estates, or certain types of trusts, and being a Domestic corporation.

Benefits of S Election

There are many advantages to electing the S Corporation tax classification, the most prominent of which is income tax savings. S corporation income is only taxed one time when the company pays the shareholder in dividends, as long as the S corporation has met all the requirements. This is beneficial to C Corporations that have income flowing through to the shareholders and potentially liable to both federal and state taxes.

S Corporation owners also have the advantage of limited liability protection, just like C Corporation owners. Additionally, in some cases, losses can be used to offset other income of owners, since the owners of the S Corporation report any profits and losses on their individual returns. S Corporations can also invest in qualified retirement plans.

Implications of S Election

In addition to the benefits of electing S Corporation status, there are also certain drawbacks that should be taken into consideration. S Corporation shareholders must pay themselves reasonable salaries, which are subject to self-employment taxes. This can be a significant cost for small businesses and can eat into profits.

S Corporations are also subject to greater scrutiny by the IRS, and must follow complex rules and regulations to remain in compliance. These rules are constantly in flux, and can be difficult to keep up with.

Lastly, it is important to note that S Corporation owners are subject to the same types of taxes as C Corporation owners. The distinction comes in how the profits are taxed, since the S Corporation profits are only taxed at the individual shareholder level, as opposed to the corporation itself.

Frequently Asked Questions

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