S Corporation Requirements

A small company can choose to be treated as an S Corporation and receive special tax privileges. Unlike regular corporations, this special type of business entity is not compelled to pay federal corporate taxes. Instead, this type of corporation passes net incomes or losses through to its shareholders. The income of the company is only taxed once and at the level of the shareholders. However, before a company can get this special designation, it has to pass the stringent requirements set forth by the Internal Revenue Service.

As to Shareholders and Types of Shares

In order to be approved as an S Corporation, a company should not have more than 100 shareholders, which can be composed of individual, families or estates, certain trusts and certain tax-exempt groups. A company is not eligible to have an S Corp designation if not all the shareholders consent to adopt this special designation.

Partnerships and corporations are not allowed as shareholders of this type of special entity. Married couples, as well as their estates, will be treated as one shareholder. A family (which includes all individuals within the same lineage, plus their spouses and ex-spouses) can also be considered as one shareholder for as long as a member of the family agrees to this type of corporate designation. It is also worth noting that all shareholders of the company must be citizens of the US or resident aliens.

Regular corporations usually have different kinds of stocks, specifically common and preferred. However, if you want your company to have this special designation, it needs to issue only one class of stock. The S status can be revoked once a corporation issues various types of stocks.

As to Nature of Business

Not all types of companies can seek this special corporate status. Banks and thrift companies are not eligible to get an S status. Insurance companies, present or former DISCs (Domestic International Sales Corporation), possession corporations and other financial institutions are also ineligible to seek this special designation.

As to Domesticity

In order to be treated as an S Corporation, the company must be either a domestic corporation or a domestic entity that is eligible to be classified as a corporation. It is important that your company is incorporated under the laws of the US or any of its states. Your S status will be revoked if the authorities find out that even one of your company’s shareholders is a non-resident alien.

As to Tax Year

One criterion for eligibility as an S Corporation is for a business entity to have a tax year ending in December 31. However, some entities with S designation are also allowed to elect a tax year that conforms to the provisions under Section 444 of the Internal Revenue Code.

It is worth noting that an S Corporation status can be revoked once a company no longer passes the eligibility standards. This means that the company will revert back into being a regular corporation. Moreover, a company can also lose its S designation if, for 3 consecutive years of earning profits, more than 25% of the gross receipts of the company is made up passive income.


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