An S-Corporation is a hybrid between partnerships and C-Corporations. S-Corps are formed much like a C-Corp and have a very similar structure. There are shareholders, by-laws, articles, stock, etc. just like a C-Corp. But the tax treatment of the S-Corp is markedly different from that of the C-Corp.
Unlike a C-Corp, all income and losses of a S-Corp are attributed pro rata to the owners. This means that there is no “double taxation” of corporate income like there is with the C-Corp.
Another advantage to a S-Corp is the lower taxation rates applicable to S-Corp income as compared to the C-Corp. You see, the tax rates applied to regular C-Corps are generally higher than those applicable to individuals. Thus, when S-Corp’s income (i.e., profits) is distributed, it will be taxed at the rate of the individual owners, rather than the higher rate applicable to C-Corps.
Please note, however, that you need to meet certain guidelines to be eligible for S-Corp status. Almost any small business will meet these guidelines, however, so you can just let your accountant or attorney know that you want to form an S-Corp.
In addition, you need to file a document with the IRS in order to qualify as a S-Corp. Form 2553 is the S-Corp election form. Once filed, the S-Corp election will remain in force until you notify the IRS that you revoke the the S-Corp election. Please note that you can file an S-Corp election at any time for a particular tax year up until the sixteenth day of the third month of that tax year. (e.g., March 16th was the last day that you could elect S-Corp status for tax year 1997. But you can file for 1998 at any time in 1997 and until March 16th, 1998.)
If you are going to run a small business, the S-Corp structure is a much better entity than the traditional C-Corp. So you should probably make an S-Corp election if you wish to use a corporate entity. But, frankly, we are not big fans of S-Corps. We think that the limited liability company is a better entity, but we prefer the exotic over the mundane, so maybe we are biased. We also prefer the limited liability company because it requires less formality than the S-Corp, a consideration when we advise business people who will be too busy to worry about corporate minutes, resolutions, etc.