Choosing Your Washington Business: S-Corporations

Basic Considerations:

This series of article describes certain basic considerations and costs involved in forming a Washington business. Please note that choosing a business form should not be done in vacuum. Consideration as to how this decision may impact future alternatives is critical. For example, converting a LLC into a Corporation immediately before the business is acquired, rather than at an earlier time, may prevent the transaction from being tax-free. This article is only an overview, particularly as to tax issues and should not be substitute for a professional advisor’s analysis and recommendations based on your individual fact situations when establishing your business.

Selecting the Form of Business Organization:

No single factor is controlling in determining the form of business organization to select, but if the business is expected to expand rapidly, a corporation will typically be the best alternative because of the availability of employee incentive stock plans; ease of accommodating outside investment and greater long-term liquidity alternatives for shareholders. A corporation also minimizes potential personal liability if statutory formalities are followed.

The characteristics of a Business are described below, followed by an overview of other traditional forms of business organizations. Each of the following factors is described for comparison purposes: 1) statutory formalities of creation, 2) tax consequences, 3) personal liability of owners, 4) ease of additional investment, 5) liquidity, 6) control and 7) legal costs. Compare LLCs, or Corporations. This article will focus on S-Corporations.

S-Corporations:

One of the more mis-construed business forms available is the 'S-Corp'. Many people think the 'S' stands for 'Small'. The S actually stands for the subchapter within the Internal Revenue code that governs Corporations which elect to be taxed under the Sub-chapter S regime...thus the real name should be a 'Sub-Chapter S Corporation'.

Basics:

A corporation may be an 'S-Corporation' and not subject to federal corporate tax if shareholders UNANIMOUSLY elect S status for the corporation on a timely basis. A S-Corporation is a tax law label rather than a special type of corporation under state corporate law. Like a partnership, an S-Corporation is simply a conduit for profits and losses to shareholders. Income is passed through to shareholders and is generally taxed only once.

Qualifications:

In order to qualify as an S-Corporation, the corporation must meet certain eligibility requirements including: 1) it must have no more than 75 shareholder, 2) each shareholder must be an individual, certain trust, certain charitable organization, employee stock ownership plan or pension plan, 3) no shareholder may be non-resident alien, 4) it can have only one class of stock, and 5) it must be a U.S. Corporation.

Filing:

To timely file for S-Corporation status, the Corporation must file a Form 2553 form with the IRS by the 15th day of the 3rd month following Incorporation. Should a late filing be needed, one can look to Rev. Proc 2003-43 for guidance in filing a late S-Election.

For more information on forming a S-Corporation, please consider guidance from an experienced Washington Small Business Attorney.