 |
 |
 |
 |  |
Incorporate: Form a Corporation
Incorporate a business to limit your personal liability and pass-thru profits (Subchapter S). An incorporated business exists as a separate legal entity and is singularly responsible for its bad debts. Starting your business is as easy as incorporating in any state. Incorporate your business, C or S corporation, in any state with our easy to use incorporation forms.
S Corporations
What is an "S" corporation? Put simply, an S corporation is a corporation that elects to pass corporate income, losses, deductions and credit through to its shareholders for federal tax purposes. To qualify for S corporation status, the corporation must meet the following requirements:
- Be a domestic corporation;
- Have only allowable shareholders, including individuals, certain trust, and estates and may not include partnerships, corporations or non-resident alien shareholders;
- Have no more than 100 shareholders;
- Have one class of stock;
- Not be an ineligible corporation i.e. certain financial institutions, insurance companies, and domestic international sales corporations.
In order to become an S corporation, a corporation meeting the above-mentioned requirements must submit Form 2553 Election by a Small Business Corporation signed by all the shareholders.
C Corporations
What is a C corporation? Unlike most other entities, a C corporation is actually a taxable entity. A C corporation is taxed on its income as opposed to other structures, such as S-Corps and LLCs, which simply pass the income along to the owner(s), who are then taxed on that income. A major disadvantage of a C-Corp is double taxation.
Why is a C corporation subject to double taxation? To understand how double taxation occurs with respect to a C-Corp one need only consider the means by which the corporation distributes money to its shareholders, i.e., dividends. The word "dividend" comes from the Latin word "dividendum", which translates to "thing to be divided".
- Dividends are payments made by a corporation to its shareholder members, or more specifically, dividends are the portion of corporate profits paid out to shareholders. When a corporation makes a profit there are two (2) things it can do with it: a) the corporation may retain the money for reinvestment, which is referred to as "retained earnings", or b) the corporation may distribute the profit, or portion thereof, to its shareholders. Distribution of profits to shareholders may be in the form of stock repurchase or cash. If the distribution is made in cash it is considered a dividend. Thus the money paid to the shareholder as a dividend of a C-Corp is taxed twice; once at the corporate level as corporate earnings and again at the personal level as personal income to the shareholder. Most corporations retain a percentage of their earnings and distribute the remainder as dividends.
The difference in the monies paid to shareholders by a C-Corp and an S-Corp is that a C-Corp pays dividends while an S-Corp pays distributions. The C corporation dividends are taxable at the corporate level while the S corporation distributions are generally not taxable at the corporate level. Federal corporate income tax is imposed at graduated rates and where corporate taxable income is in excess of $335,000, the tax rate is 34-35% on that income. As an example, let's assume that a corporation has a profit of $100,000 (taxable income). Additionally, strictly for the purposes of this example, let us assume that the federal corporate tax rate on $100,000 is 20%. In addition, let's assume that the shareholder of the corporation has a combined personal tax liability (federal, state and local tax liability) of 40%. The following summarizes the affect of taxation on the corporate profits:
- C corporation: First, there is not $100,000 for the C-Corp to pay as a dividend since 20% (assumed for our example) is deducted for taxes. The result is $80,000 available for dividends. If the available $80k is paid out as a dividend, the shareholder would pay $32k (40% of $80k) in taxes. The net to the shareholder would be $80k - $32k =$48k.
- S corporation: Since profits are not taxed at the corporate level the entire $100k would be distributed to the shareholder. The shareholder would pay $40k (40% of $100k) in taxes. The net to the shareholder would be $100k - $40k = $60k.
From an accounting, tax and legal aspect, both S and C corporations are more complicated to operate than sole proprietorships, partnerships or LLCs. Incorporating is more expensive, requires more paperwork and taxes. Consequently, corporations tend to have higher legal and accounting costs.
The major benefit of incorporating is the protection of owners and shareholders from personal liability for the corporation's debts or actions. The same is true for limited liability companies. This is also referred to as the "corporate veil" - a legal concept that separates the personality of a corporation from the personalities of its shareholders, and protects them from being personally liable for the company's debts and other obligations.
The most popular form of limited liability protection is an LLC. Learn how to form an LLC.
For those wishing to incorporate, consider that Incorporate Online services merely mail your forms for a substantial fee. As an alternative, you can download your business incorporation forms, type the information directly into the form and mail with the appropriate fees resulting in a savings of $75 - $150.
When can a corporation start transacting business? A corporation’s existence begins when its articles of incorporation are filed with the Secretary of State.
