As a business owner, you should periodically assess the form of corporation that is best both tax and non-tax perspective. Alternative include:
C corporations. The most basic type of corporation, the C corporation shields investors from personal liability. One downside to this type of corporation is the concept of double taxation: the corporation must pay federal income tax and any shareholders must also pay income tax on any dividends they receive.
S corporations. A corporation that has an S election in place does not pay federal corporate income taxes. Instead, S corporation income, losses, deductions, and credits "pass through" to the owners to be reported on their individual tax returns. Thus, S corporation income generally is taxed only once — to the shareholders -- unlike regular C corporation income, which is taxed once to the corporation and again to the shareholders when it is paid out as dividends.
If you're considering whether to operate your business as an S corporation, you'll want to take into account the following:
- The maximum number of shareholders allowed has been increased from 35 to 75. (Husband and wife are considered one shareholder.)
- A type of trust, called an "electing small business trust" has been added to the list of allowable S corporation shareholders.
- Also, an S corporation can now have subsidiaries. (C corporation subsidiaries must be 80%-or-more owned and S corporation subsidiaries must be wholly owned.)
- A nonresident alien cannot be a shareholder.
If the corporation fails to meet these requirements, it can lose its S status and will be taxed as a C corporation.
Limited liability companies (LLCs). Like a regular C or S corporation, an LLC provides owners with protection from personal liability for business debts and obligations. But most LLC owners can choose to have their business treated as a partnership for income-tax purposes. Partnership treatment means:
- Income, losses, deductions and credits pass through to the individual owners (called "members") to be reported on their individual income-tax returns.
- LLC income is not subject to double taxation.
- An LLC can specifically allocate income and expenses among its owners to the same extent a partnership can.
There are no restrictions as in the S corporation and you can have a single member LLC in New Jersey.
You should review your form of business entity periodically with your lawyer and accountant.