A corporation is a formal legal entity, with rights and responsibilities that are separate from its owners, who are referred to as shareholders. A subchapter S corporation is a specific type of corporation that complies with the requirements set forth in subchapter S of the Internal Revenue Code. To become an S corporation, a business must elect special tax status by filing IRS form 2553 within two months and 15 days of the beginning of the company’s tax year.
Subchapter S corporations share a key advantage with other types of corporations—the limited liability of shareholders. The personal assets of shareholders are generally not available to satisfy the debts and obligations of the corporation. The most a shareholder can lose is their investment—the amount paid for the company stock.
Subchapter S status, however, confers a specific benefit on the company and its shareholders–the avoidance of double taxation. With a C corporation, the company pays a corporate tax on the income of the business, and then shareholders are taxed on their dividends or earnings from the company. With a subchapter S corporation, there is no corporate-level tax. The income “passes through” to the shareholders and is reported as taxable income on their personal tax returns.
Under the provisions of the Internal Revenue Code, a subchapter S corporation:
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