An S corporation is a standard corporation that has elected a special tax status with the Internal Revenue Service (IRS). S corporations have the same limited liability protection of standard corporations. The S corporation's special tax status eliminates the possibility of the double taxation that occurs with a standard corporation. The standard corporation pays a federal corporation income tax on its profits. Double taxation then occurs if the corporation distributes profits in the form of dividends to the shareholders, because the shareholder must then report the dividend as personal income and pay taxes on it.

The S corporation election is quite beneficial when profits from the company will be distributed to the owners each year. By taking the S corporation election, the income and/or loss of the corporation is reported directly on the shareholders' individual tax returns.

To be classified as an S corporation, a corporation must make a timely filing of Form 2553 with the IRS. In order for this election to take effect in the current calendar year, the election must be made by March 15, if the corporation is a calendar year taxpayer. A corporation can decide later to elect S corporation status, but this election would not take effect until the following calendar year.

Some advantages of an S corporation include:

• Avoidance of possible double taxation.
• Shareholders are not personally responsible for the debts and liabilities of the corporation.
• Most other advantages of a C corporation apply to an S corporation.

Some disadvantages of an S corporation include:

• In order to qualify for S corporation status, an S corporation cannot issue preferred shares of stock with special liquidation, dividend or conversion rights.
• Shareholders must number fewer than 75.
• Shareholders must be individuals, estates or certain qualified trusts and all must consent in writing to the S corporation election.
• Shareholders cannot be non-resident aliens.
• There are more corporate formalities (annual paperwork) and more state and federal rules and regulations than with sole proprietorships and partnerships.

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