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S Corporations

IRC Section 1361(b) details the requirements for a corporation to be an S
corporation. A brief explanation of these stipulations are listed below.

1. 75 shareholders or less (For tax years beginning after 12/31/04, 100 shareholders or less)
2. No shareholders other than individuals, who are U.S. citizens or residents, estates, certain types of trusts or IRC Section 501(c)(3) organizations
3. Only one class of stock
4. A domestic corporation
5. Not an ineligible corporation

A corporation makes an S election by filing Form 2553 (Election by a Small Business Corporation). The election must be signed by an officer of the corporation. The form must detail the name of each shareholder, the number of shares owned and the dates acquired, the shareholder’s social security number and the shareholder’s tax year ends. The election is required to be filed on or before the 15th day of the third month of the initial S corporation year or during the year proceeding the first tax year the S election is to be effective. For newly formed corporations, the initial tax year begins on the earliest of the corporation having shareholders, acquiring assets or beginning to do business.

Some states do tax S corporations; Illinois has the 1.5% Illinois Replacement Tax. One of the advantages of the S corporation (other than some states not taxing them) is that a business can avoid double taxation and consequently, an S corporation does not ordinarily pay tax. Even though this is the general rule there are some situations where special taxes may be charged – Built-In Gains Tax, LIFO Recapture Tax and Excess Net Passive Income Tax.

Since an S corporation is a flow-through activity, many of the taxation issues related to an S corporation are shareholder issues. Shareholders will have deductability issues related to their basis; issues related to the taxation of S corporation distributions; fringe benfit and compensation issues for shareholders; and, multistate taxation issues, etc.

- Christopher F. Beaulieu, CPA, MST
  Nykiel, Carlin & Co., LTD.

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