The term corporation is used to refer a separate legal entity, created under the law, having limited liability, perpetual succession and the ability to raise funds from the market by selling its stock. There are two types of Corporation, registered under IRS (Internal Revenue Service) for imposing the federal income tax, which is S Corporation (S Corp) and C Corporation (C Corp).
People often use the terms interchangeably, as both share certain common characteristics, regarding the legal benefits provided by them. However, there are slight and subtle differences between S Corp and C Corp, which lies in the way, these two entities are taxed, i.e. while the S Corporation is taxed at individual level C Corporation is taxed at corporate and individual level.
Content: S Corp Vs C Corp
|Basis for Comparison||S Corp||C Corp|
|Meaning||S Corp is a corporation whose shares are held by a small group and chose to be taxed under Subchapter S of Internal Revenue Code.||C Corp is any corporation taxed independently of its members, as per, Subchapter C of Internal Revenue Code.|
|Payment of tax||Owners pay the tax.||The corporation itself pay the tax.|
|Class of stock||Single class of stock can be issued.||Multiple class of stock can be issued.|
|Membership restrictions||Restricted to 100 shareholders.||No such restrictions.|
|Suitability||Small businesses||Large businesses|
|Owners||US citizens and residents||Anyone or any entity|
|P&L allocation||Based on ownership||Decided by the members|
Definition of S Corp
S Corporation, commonly known as S Corp is a closely held corporation, which opted to be taxed under Subchapter S of the Internal Revenue Code. Such corporations are allowed to pass their profits, losses, credits and deductions to their shareholders. Further, individual tax returns are filed by the shareholders and whatever the amount received as gains or losses, from the corporation, will be shown by them as their income, on which tax is paid at individual rates.
By electing the S Corp status, the corporation can avoid cascading effect, i.e. the company need not pay tax on the business profits at the corporate level.
Characteristics of S Corp
- A single class of stock.
- Transferability of shares is restricted to eligible shareholders only.
- Maximum shareholders are 100.
- Distribution of profits and losses on the basis of their equity ownership interest.
- Use of calendar fiscal year.
Definition of C Corp
As per US federal income tax law, any corporation is termed as C Corporation or C Corp which is taxed distinctly from that of its members. The corporations are taxed under Subchapter C of the Internal Revenue Code, wherein a corporate tax return is filed by the corporation which shows the profits earned or losses suffered by the entity during the year.
All for-profit corporations, operating in the United States, are regarded as C Corp unless the corporation opts for S Corp. The income of the company is subject to double taxation, i.e. first at the corporate level, on the net income and next at the individual level, when the profits are distributed as the dividend to the shareholders of the company. It has higher tax planning flexibility and protects shareholders from direct, tax liability.
Key Differences Between S Corp and C Corp
The significant differences between S Corp and C Corp are given in the following points:
- A corporation whose shares are held by a small group and chose to be taxed under Subchapter S of Internal Revenue Code is known as S Corporation. Any corporation taxed independently of its members, as per, Subchapter C of Internal Revenue Code, is called C Corp.
- C Corp is taxed twice, firstly they separately taxed, i. e. corporate tax return is submitted to the relevant authority, and the tax is paid at the corporate level. Secondly, when the profit is allocated to the shareholders as a dividend, the tax is paid one more time, on individual rates on the dividend received. On the contrary, no income tax is paid at the corporate level by the S corp. However, an informational federal return is submitted to the relevant authority. The business profits or losses are passed through, and declared by the owner, in his/her individual return.
- C Corporation pays the taxes itself, by filing the corporate tax returns, whereas the owners pay taxes for S Corporation.
- S Corp can issue only one class of stock. On the other hand, the C Corp are free to issue manifold classes of stock to the public.
- The members in an S Corp are limited to 100 persons only. As against this, there is no such restrictions on the number of members in a C Corp, i.e. there can be an unlimited number of members.
- S Corp is appropriate for small sized business while C Corp is best suited for large businesses.
- Only US citizens and residents are allowed to become an owner in an S Corp. Unlike, C Corp wherein any person or entity can become its owner.
- In an S Corp, the profits and losses are distributed on the basis of equity ownership interest. Conversely, in a C Corp, the distribution of profit and losses is decided by the members.
- Both provides limited liability protection to the members, as they are not personally liable for the debts of the firm.
- Both the corporations are expected to file the relevant documents with the state.
- The structure of the two entities is identical, which comprise of shareholders, the board of directors and officers.
- The legal formalities and obligations of the two corporations correspond each other, such as the adoption of bylaws, annual report submission, stock issuance, payment of annual fees, etc.
Making a choice between S Corporation and C Corporation is a confusing and strenuous job. One can go for any of the two corporations as per his requirement and suitability. Typically, all the corporations are considered as C Corp., unless they opt for S Corp. While C Corp is taxed twice, they offer a certain amount of flexibility in relation to a class of stock, number and type of shareholders, stock option and so on, which are not present, in the C Corp.