S Corp Vs C Corp: Which One Is The Best?

Picture this; you have decided to start a new business. You have an excellent idea and have met all legal obligations. You’ve mapped out your business strategy. Everything is set. Now you are ready to form a corporation and are faced with the question: S corp vs C corp.

As you begin on the journey of creating a new business, you will discover that the legal business entity you choose has a substantial influence on many elements of your business, including finance, taxes, and overall business performance. Choosing which business entity type makes the most sense for your company is not easy; it will need a side-by-side comparison of the two entities. Thankfully, we have taken the time to evaluate the two most popular business structures: S-corp and the C-corp.

Choosing between two business structures can be difficult. No choice, in this case, is a clear winner. What is ideal for one business may be a disaster for another. Each business entity has its pros and cons, and the benefits will outweigh the drawbacks depending on your business needs.

To help readers through the thought process, we will go through each business structure right from its formation, taxation, protection, advantages, and disadvantages, among many other factors.

Let’s get started!

What Is A Corporation?

A corporation is a business entity — owned by its shareholders and operated by a board of directors — permitted by the state to function as a single entity. Corporations have many of the same legal rights and obligations as people (except the right to vote). They can engage in contracts, lend and borrow money, sue and be sued, hire personnel, own assets, and pay taxes.

The actual legal implications  of a corporation vary by state, but the company’s most significant feature is always “limited liability protection.” Liability protections mean shareholders benefit from dividends and stock gain, ensuring they are not personally accountable for the company’s obligations and debts.

Small business owners also form corporations because it helps them attract investors and raise capital funding. They have a board of directors and issue shares to shareholders and investors to raise funds.

To establish a corporation, startups must go through a legal process known as incorporation. Incorporation necessitates the submission of legal documents describing the firm’s principal purpose, name, location, and the number of shares and kinds of stock issued. The incorporation process offers the company entity a distinguishing attribute that shields its owners from being personally accountable in the case of a lawsuit or legal claim.

The Definition Of S-Corp

An S corporation also called an S-corp or S subchapter is a pass-through entity that can only be owned by individuals. S corps are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes. 

In an S-corporation, the business owners are known as shareholders. As a shareholder, you are considered an employee of the business and must be paid a fair wage.

An S corporation must also have a maximum of hundred shareholders, and only American citizens or permanent residents are allowed to form one. S corps are also required by law to appoint a board of directors and hold annual meetings. They must follow a set of corporate bylaws tightly enforced by federal and state agencies.

How To Form A S-Corp

Forming an S corp is a little more complicated than creating a C corp, as you will discover. First, you must file your incorporation articles with the secretary of state. Consequently, you will need to file additional paperwork, including form 2553, with the IRS to become an S corp. Form 2553 enables your business to elect s corp status. 

However, you will have to meet specific internal revenue code (IRC) requirements, including being a domestic corporation, having not more than 100 shareholders, and having only one class of stock, among others. 

Forming an S corp isn’t free. You will need to pay filing fees to the necessary agencies, both federal and state when filing your articles of incorporation. Depending on where you live, the initial outlay to form an S company might be anywhere from $800 to $3,000 (not including legal representation, of course).

To validate your tax election annually, you must complete and submit your form 2553 to the IRS in the following ways:

• Anytime before the 16th day of the third month (should happen by the 15th of the month) 
• Anytime during the preceding tax year

The Definition Of C-Corp

A C corporation also referred to as a C-corp or subchapter “C”—under which its tax designation is described, is any corporation that does not qualify or elect to be an S corporation under the Internal Revenue Code. It is a business structure that permits its shareholders or owners to be recognized as independent entities. Earnings made by the C company are taxed when earned, and corporate profits transferred to shareholders are taxed when received. This is a phenomenon known as “double taxation”.

Like an S Corp or an LLC, a C Corp provides limited liability protection to its small business owners. While there are various legal business entities from which to run a firm, all significant publicly listed firms in the United States are all C corps. This is because the expenses of establishing and administering this highly regulated corporate structure are more significant.

A C Corp, although more difficult and costly to run than an LLC or S Corp, is a perfect alternative for medium or high-risk firms, organizations that want to raise cash via stock sales, or businesses that wish to go public in the future. C-corps have little limits on who may hold shares, meaning investors and corporate entities within and outside the United States can own them. There are also no restrictions on the overall number of stockholders. 

How To Form A C-Corp

Creating a C Corp is automatic when you file articles of incorporation; it begins with coming up with a perfect name for your company and then checking to see whether it’s available. The next step is to choose a registered agent for the company. You must specify each of these elements in the articles of incorporation. After that, more steps may be necessary, depending on state regulations and your personal preferences.

The Differences Between S Corp Vs C Corp

The significant difference between C and S Corporations is taxes. Although the way they’re formed and ownership structure are also primary distinctions.

Taxation

A C corp is taxed on its income and distributions, while An S corp is only taxed on its distributions. S corps are regarded as pass-through entities. Pass-through taxation means small businesses do not pay taxes on the corporate level. Instead, they pay personal income taxes on the wages they pay themselves from the company.

Moreover, according to the Tax Cut and Jobs Act of 2017, S corporation owners can deduct 20% of qualified business income from their income. The deduction is slated to expire in 2025 unless Congress extends the law.

However, for federal tax purposes. C corps are subject to double taxation, meaning they are taxed at the corporate and personal levels on business profits and dividends.

This makes C-corp tax more expensive than S-corp tax, which is one of the reasons we prefer S-corps for small firms. 

Formation

C corps are, by default, the standard and most common corporations. As soon as you file articles of incorporation with the appropriate authorities, your business will automatically be classified as a C corp. Though the procedure varies by state, the three most common stages are:

• Decided on a business name
• Selecting a Registered Agent
• Filing your articles of incorporation with the secretary of state

S corporations, however, are tax elections and not legal business entities. This means you can’t form an S corp, but you can convert your existing business to one by completing internal revenue service form 2533

Shareholder Limitations

S corporations are limited to no more than 100 stockholders, all of whom must be US citizens or residents. C companies have no limits on ownership.

Ownership

Each share of S-corp common stock provides stockholders with an equal interest in the company. This is in contrast to C-corporations, which have uneven equity ownership. For example, one share of preferred stock may provide a more significant ownership position in the firm or a higher dividend than one share of ordinary stock.

Stock

S corporation owners can only issue one class of stock (regardless of voting rights), but C corps can issue multiple classes. To be clear, S-corps can only issue common stock while C-corps issue both common and preferred stock.

The Pros And Cons Of S-Corp

Advantages

20% qualified business income deduction

Qualified S Corp shareholders can benefit from up to 20% in net tax deductions due to the Tax Cuts and Jobs Act of 2017 

Double taxation 

S corps are taxed only once during the distribution of earnings to shareholders. This contrasts with C corporations taxed at the corporate level and then again at the individual level on dividends.

Single taxation level on sale of a business.

Unlike C corps, the proceeds are taxed only once when an S corporation is sold.

Others include options to:

• File taxes annually
• Reduce self-employment tax
• Pass losses direct to owners

Smaller businesses looking to avoid double taxation are advised to elect s corporation status.

Disadvantages 

Limited shareholders

The number of shareholders in an S-corporation is restricted to 100. This constraint in ownership leads to limits in a variety of other areas. For example, the company’s capacity to attract fresh investors. Other shareholder limitations include the need for shareholders to be people and not other entities (with a few exceptions) and US citizens or residents. This makes it more difficult for an S company to acquire equity funding, mainly because venture capital and private equity firms are often foreigners. 

Only one stock option

S corps are not the most common legal entity of choice for investors seeking multiple stock options. S corps are only permitted by law to issue common stocks.

The Pros And Cons Of C-Corp

Advantages

There is no limit to the number of shareholders or owners.

C-corporations may be founded and held by an unlimited number of shareholders. Furthermore, C-corps may be owned by any person, other forms of businesses, LLCs, trusts, or estates from around the globe.

More equity financing options 

Because C-corporations do not have the same restrictions as S-corporations, it is simpler to get equity funding. Equity funding is easier to get than for S-corps or other types of company entities.

Others include options to:

• Lower maximum tax rate
• Issue more than one class of stock (common or preferred)
• Have foreign investors and shareholders

Big corporations and potential startups may find that these advantages outweigh the tax benefits of an S corp.

Disadvantages

Double taxation

Unlike an S Corp, a C Corporation is taxed as a corporation. This implies that it is liable to federal taxes as a corporation, and shareholders must pay self-employment taxes.

Expensive Expenses: There are several fees associated with creating a C Corporation. This might be too much for a startup.

The Comparison Chart Of S-Corp And C-Corp

The Top 2 Featured Partners 

ZenBusiness

ZenBusiness was founded in 2005 and is based in Austin, TX. ZenBusiness is one of the industry’s top-rated company creation services (for incorporation and limited liability company formation), having assisted in establishing over 300,000 enterprises. Zen is a little different in that they are a small business corporation and are formed as a socially conscious company, which means that they balance financial success for its shareholders with having a beneficial influence on society. They can create your business and file your S-corp election for you simultaneously for an additional $49.

Northwest

Northwest Registered Agent, situated in Spokane, WA, was created in 1998 and is mainly a registered agent service that also provides company formation services. Their reputation for excellent customer service is unrivaled, and clients appreciate their dependable and straightforward pricing. Northwest provides a fixed cost for company creation services rather than various pricing levels with plenty of needless extras. They can form your business and file your S-corp election for you at the same time for an additional $50.

Final Thoughts

In essence, our s corp vs c corp analysis should be enough to assist you in making informed decisions. We determined that C corporations are the industry norm and S corporations are a corporate income tax option. That is to say, S-corps are only a viable option if you’re hoping to reap certain tax advantages, such as avoiding the double taxation that often befalls corporations.

S-corporation tax advantages make it more attractive to small businesses since they stand to profit significantly from potential personal income tax savings. On the other hand, C-corporation gives a great deal of independence and is favored by both big and small company owners.

Frequently Asked Questions (FAQs)