When starting up a company in Illinois, you will research various formation options available under state law and do your research to find the right fit for your business. Many in your position lean towards a corporation because of the benefits it offers, both for owners and the entity. However, you may not realize that there are distinct types of corporations that can provide additional advantages from a federal income tax standpoint. One is the S Corporation, often referred to as a “flow-through” entity for how profits and losses are distributed among owners.
It is essential to get your business off on the right foot, so you will need to understand the benefits of organization as a corporation AND opting for S corporation treatment. You can trust an Illinois business formations lawyer for the specifics, but an overview can cover the basics.
Benefits of Forming a Corporation in Illinois: Before getting to tax issues, you should note the characteristics that make a corporation an attractive option for formation purposes. The key issue is a liability, since a corporation is a separate, distinct entity from its stakeholders. Owners will not be personally liable for the debts, judgments, lawsuits, and other financial or legal obligations of the company. Note that there are exceptions to limited liability in the event of misconduct.
Federal Tax Treatment of S Corporations: Upon forming your business as a corporation, you will have options regarding how the IRS treats the organization. One alternative is the S corporation election for federal income taxes. The term “flow-through” refers to the fact that shareholders of the company are taxed on income, the corporation is not. Plus, owners can deduct their share of business losses on their individual income tax returns. With a C corporation, stakeholders and the company pay taxes on income AND only the organization can offset losses.
However, the IRS imposes strict rules when you elect to operate as an S corporation. For example:
- Your corporation must be domestic, instead of organized under the laws of a foreign country;
- There is a limit of 100 shareholders;
- Your company can issue only one class of stock;
- Shareholders must be individuals, as opposed to another corporation, partnership, limited liability company, or other entity;
- Nonresident aliens cannot own shares; and,
- You must file your S corporation election with the IRS, Form 2553. If you do not, the company will be treated as a C corporation by default. It is difficult to transition to an S corporation after starting up, so you should make the decision upon formation.
Discuss S Corporations with a Business Formations Lawyer in Naperville, IL
This summary of S corporations may be helpful, but there are additional details that you will need to fully understand before committing to this type of organization. At The Gierach Law Firm, our team has in-depth knowledge of the laws and IRS regulations that apply to various business formation types, so we can advise you on the pros and cons. For more information, please call 630-756-1160 to set up a consultation with an experienced Naperville business law attorney.