Choosing a business structure has profound tax and liability implications. Deciding between a corporate and noncorporate structure, such as an LLC or partnership, is only the beginning. Once owners decide that a corporate structure best meets their specific needs, they then must decide what type of corporate structures to create.
Overview of Corporations
A corporation is created when its articles of incorporation are filed with the secretary of state. Most corporations are run by “officers and directors” while owed by “shareholders.” Corporations are business entities that exist separately from their shareholders. This means that shareholders are not personally responsible for the debts (above their personal investment into the corporation) and liabilities of the corporation. To retain the benefits of being a corporation, there are a number of legal requirements and formalities that must be adhered to.
“S-corp” and “C-corp” refer to the selection of tax classifications that are available to corporations. The terms “S-corp” and “C-corp” come from the chapter of the IRS code where they are taxed. Therefore, the primary difference between S-corps and C-corps is the way they are taxed.
Overview of C-Corps
C-corps are the most common type of corporate tax status. The taxing of C-corps is sometimes referred to as “double taxation.” This means that the corporation itself files a tax return (IRS Form 1120). Next, shareholders must then pay taxes on their personal tax return for any stock dividends or stock sales. So, the corporation is taxed once and the shareholders are taxed a second time.
Despite the “double taxation,” C-corps are used for many reasons. For example, under a C-corp there is little restriction on who can own shares of the corporation. This allows not only individuals but other business entities to own stock. Also, shareholders are not required to be U.S. residents, which allows for international ownership. Generally, there are no limits to the number of shareholders in a C-corp. As for liability protection, a C-corp provides liability protection for its shareholders.
Overview of S-Corps
Unlike C-corps, S-corps do not file a corporate tax return. This means that the individual shareholders are taxed at the individual level for income from dividends and stock sales. This type of tax structure is sometimes called “pass-through taxation.” This pass-through taxation allows shareholders who meet certain qualifications to claim corporate losses on their personal tax returns.
There are certain restrictions that are placed on an S-corp to maintain its pass-through taxation. Shareholders of an S-corp must be citizens or permanent residents of the United States, and the only entities allowed to be shareholders are trusts, estates, and some tax-exempt organizations. To prevent the S-corp from becoming a public corporation, S-corps are not allowed to exceed a specific number of shareholders. Like C-corps, S-corps also provide liability protection for its shareholders.
Another Option: B-corps
Colorado allows for a third option called B-corps. B-corps are for-profit corporations that combine their business with a public interest component. As such, the shareholders are required to ensure the company works toward financial profit while having a public benefit. B-corps allow companies to grow and expand as a corporation while maintaining a social mission.
A B-corp’s social mission is monitored and granted by “B Lab,” a nonprofit organization that assesses the social mission of the company. Every three years, B-corps must be recertified by the B Lab to maintain their status as a B-corp.
B-corps pay the same taxes as other corporations and are allowed to elect either a C-corp or S-corp tax structure and provide the same liability protections to their shareholders. However, the benefit of the B-corp designation is that it provides a unique branding opportunity (attracting employees, shareholders, and others) and certain loan forgiveness for academic contributions.
Selecting the Right Corporation
There is no one-size-fits-all approach to corporate selection. Having an experienced business attorney will ensure that your business starts on the right footing and that you receive the protections and benefits from your venture.
The business attorneys at Burnham Law have helped many clients with their small business needs. Let Burnham Law’s experience and advice get your business the jump start it deserves. Contact us today at (303) 653-9497.