“S Corporation” is the term used in the United States Federal Income Tax Act that refers to corporations that are given privileges over certain matters. This statute allows relatively small entities such as partnership firms, some self-employed and sole proprietors to convert themselves into a corporation. There are certain qualifications that must be followed before being classified as S Corporation:

  1. Must possess only one class of shares (i.e. all should be having same par and paid up value)
  2. Number of shareholders must not exceed 100.
  3. Shareholders must be natural persons. Any artificial entity can’t be the shareholder.
  4. Profit & loss must be allocated to shareholders in proportion to their interest.
  5. Shareholders must be US residents.

Tax Treatment: Abbo Tax specializes in planning and managing all tax matters of S Corporations. Here is the overview of some.

  • The share of net income earned by the S Corporation after payment of statutory dues, (i.e. FICA tax on employment wages, and the surplus left after meeting wage expenses and other expenses) will be the taxable income of the corporation.  This income, calculated on pro- rata allocation up to the interest of holders, is taxable in their hands regardless of distribution. This signifies that even if shareholders refuse to distribute the      income of the corporation among them, they are still taxable for their proportionate share while filing their individual tax return. Proper tax planning should be made to avoid any sort of penalties over this phantom taxation.
  • S Corporations are free from any sort of Alternate Minimum tax, personal holding income tax, or accumulated earnings tax which are otherwise penalties for other types of corporations.
  • Payment to Shareholders of this company is tax free to the extent that the distributed earnings are already taxed. This means that there is no intention to have a cascading effect or double taxation on income earned.
  • S Corporations can plan some tax savings. In this present scenario, a corporation is converted from a C Corporation; it is liable to pay Built-In-Gain (BIG) if it is selling a property which it acquired when it was a C Corporation. It is taxable if it is selling it within 10 years of conversion or 7 years of conversion, if the period expires before 2009 or 2010. To save itself from the heavy tax rate on appreciation of value, this corporation should plan to sell the asset after the tenure of 7 or 10 years depending upon the specifics of the case.
  • Deductions for donations are always subject to certain limitations to avoid any sort of tax evasion. But, S Corporations are provided with a benefit. The standard law of exceeding 10% of taxable limitations on charitable contributions does not apply.

We can analyze that small business owners and individuals are being provided a greater tax relief as S Corporations to give them space to flourish. At Abbo Tax, San Diego’s Best Accounting Firm,  we try our best to guide and carry out statutory compliance relating to such corporations. Visit our office today for any inquiries and professional guidance regarding these privileged corporations.