Prepare and File an S Corporation Tax Election with Form 2553
When starting a business, the type of entity to choose for you business is usually not at the top of mind for most people. When you start to look into it, there are numerous choices with varying benefits for tax, legal, and business purposes.
Many business owners select an S Corporation will choose to make an S Corporation based on the potential tax savings related to the self-employment tax.
For example, as a sole proprietor or a single-member LLC any earnings of the company will be subject to self-employment taxes in addition to the regular income tax.
As an S Corporation, the business owners are allowed to pay themselves a fair salary and then take additional distributions. The additional distributions would not be subject to the self-employment tax. In order to determine what a fair salary would be, you would want to compare the role you are considering to others with similar experience and expertise. We highly recommend that you speak with an attorney or tax accountant to help with this determination.
WHAT IS AN S CORPORATION?
An S Corporation is established when a company makes a valid election under subchapter S of the United States Internal Revenue Code. Once this election has been made, taxes are not paid by the corporation. Rather, the profits and losses are divided and passed through to the shareholders who in turn pay their portion of the taxes owed. This happens regardless of whether any distributions are made.
Although the tax savings for an S Corporation can be significant, there is typically additional accounting and tax documentation that will be required in order to stay in compliance with tax laws. You will want to keep this in mind a you are considering making the election.
HOW DO I MAKE AN S CORPORATION TAX ELECTION?
In order to make an S Corporation election, the corporation must file Form 2553 “Election by a Small Business Corporation”, which is signed by all shareholders of the company.
WHEN MUST THE ELECTION BE MADE?
The due date to file S Corp Election will depend upon whether or not this is the businesses’ first year of operations. For the election to be valid for the first year, Form 2553 must be filed no later than 2 months and 15 days from the beginning of operations.
So if your business began operations on March 10th, you would have until May 24th in order to file S Corp election in a timely manner.
HOW MUST THE ELECTION BE FILED?
Your election may be filed by mail or fax at the address provided by the IRS depending on the state where your company’s principal business office is located.
Let a professional help file Form 2553 S Corp Tax Election
Let a professional help file Form 2553 S Corp Tax Election
HOW TO FILE FORM 2553
Form 2553 is a 4-page document which requests various information about the company and its shareholders.
Part I Election Information (Items A-C)
Here you will be providing basic identifying information about the company including the name, tax identification number, and state of incorporation.
Part I Election Information (Item D)
Applies only if the company name or address has changed from the what is included since the time of the application for a tax identification number.
Part I (Item E) Election Information
This is where you will let the Internal Revenue Service (IRS) know your anticipated start date for the election period. Remember if this is your initial year of operations, the date may not be January 1st.
Part I Election Information (Item F)
You will want to work with your other shareholders (if applicable) to determine the most ideal tax year for your business. For companies that select a tax year ending in a month other than December, Part II of Form 2553 must also be completed.
Part I Election Information (Item G)
Generally, an S Corporation is not allowed to have any more than 100 shareholders. However, certain family members are allowed to be considered one shareholder for S Corporation purposes. A family member is considered to be any descendants of a common ancestor which can go back up to 6 generations. Spouses of any of these descendants are also considered to be family members.
If electing to include family members as one shareholder reduces the number of members below the 100 shareholder threshold, you will want to check this box.
Part I Election Information (Item H)
This is where you will provide the name and phone number of the person who the IRS can contact for any additional information related to the S Corporation tax election.
Part I Election Information (Item I)
This is only necessary if you are filing your S Corporation after the deadline and you would like the IRS to honor your request. You will be asked to confirm that the representations outlined in Part IV (Late Corporate Classification Representations) are true. You will also provide more details on why the S Corporation election is being filed late.
Part I Election Information (Items J – N)
This is where you will include the information about each of your shareholders:
- Name and address
- Percentage of ownership and date the ownership was acquired
- Social security number of employer identification number
- Shareholder tax-year end
This is also where you will get the signature of each shareholder, providing consent for the S Corporation tax election. If necessary, you are allowed to attach additional copies of page 2 in order to accommodate all of the shareholders.
Part II Selection of Fiscal Tax Year (Items O-R)
You will notify the IRS of the reason for choosing a fiscal tax year along with the date of the fiscal tax year end. For the most part, S Corporations are typically required to have a calendar year-end for tax purposes unless a business purposes for having a fiscal year-end can be established.
You can also establish a fiscal year end based on the natural business year of the company or the ownership tax year.
The natural business year for a company is the period ending with the low point for the organization’s activities. One example, might be colleges which have a fiscal year of June 30th as most of their classes end during the spring.
An ownership tax year is the tax year that corresponds to the year end for shareholders holding the majority of the company’s stock.
Part III is for any entity that is making a Qualified Subchapter S Trust Election (QSST). This election makes a trust qualified to hold the stock of the S Corporation.
The IRS will typically notify you within 60 days whether your application for S Corporation status has been approved.
As you can see, that while the filing of Form 2553 may seem straightforward, there are many details that go into the preparation of your election. Any mistakes or omissions can result in the rejection of your application.
If you would like more information on S Corporations or assistance on getting started, please feel free to contact us to get the process started.