“My business is an S-Corporation.”
I’ve heard this statement hundreds of times from business owners and entrepreneurs. Even certain literature from our own State of Florida states “An S-corporation is also called a standard business corporation.” Despite the confusion, there is actually no such thing as an S-Corp from a legal standpoint.
The confusion sets in because an “S-Corp” is a common (and very useful) tax designation. It provides business owners with a number of important tax benefits – but the business must still be structured as an LLC, a sole proprietorship, a corporation, or whatever the case may be.
This common misunderstanding can have serious consequences for a business owner. Here’s what you need to understand:
1) An S-Corp is ONLY a tax designation. The term “S-Corp” comes from subsection S of Chapter 1 of the Internal Revenue Code. If your business meets certain eligibility requirements, which most small businesses do, you can elect to be taxed as an S-Corp. This election provides a number of benefits, notably that a share of the profits generated by the business can be classified as dividends, which are taxed at a lower rate than employment income. So yes, in many cases designating your business as an S-Corp is beneficial for tax purposes… but don’t mistake the S-Corp designation as anything more than a tax decision.
2) You MUST organize your business – and you can’t organize it as an S-Corp. For the purposes of legally organizing your business, eliminate the term “S-Corp” from the discussion. It’s not relevant. You have a variety of options, including a sole proprietorship, a partnership, a corporation, and so on. They each provide certain advantages and disadvantages, and it’s important to speak with a business attorney in order to make the right decision for your business.
3) There are no legal benefits of an S-Corp. At the risk of repeating myself, I want to make this completely clear: electing to have your business taxed as an S-Corp provides you with no direct legal protection. Your liability isn’t limited and, your personal assets aren’t protected, unless you’re properly organized as the correct legal entity. A common and very unfortunate mistake that business owners make is thinking that because their accountant told them that they’ll be taxed as an S-Corp, there is nothing more they have to do to organize their business. But if you don’t legally structure your business, in addition to choosing your tax designation, your business may fall under the jurisdiction of statutes such as the Florida Revised Uniform Partnership Act, which can be very unfavorable to your business for a variety of reasons.
The bottom line is that the S-Corp doesn’t exist as a legal business structure. If you have been under the impression that your business is structured as an S-Corp, you may be in a legally vulnerable situation. It’s important that you speak to a business attorney immediately. Give me a call at (305) 431-5678 right now if you’d like to discuss this subject! Important legal disclaimer – this column is in no way intended as tax advice.