C Corporation: Everything You Need to Know
C corporation, or “c corp” as designated by the IRS, offers the unlimited, for-profit growth potential through the issuance and sale of shares10 min read
2. Advantages of a C Corporation
3. Disadvantages of a C Corporation
4. C Corporation vs. S Corporation
5. How to Form a C Corporation
6. Understanding C Corporations Better
7. Maintenance of C Corporation
8. Double Taxation in C Corporation
9. Similarities With S Corporation and C corporation
10. Differences With S Corporation and C Corporation
11. S Corporation (S Corp) Election
12. C Corporation Requirements
13. Advantages & Disadvantages of C Corporations
14. Tax Advantage: Wide Range of Deductions & Expenses
15. Who C Corps Benefit and Who Shouldn't Use Them
16. How to Avoid the Double-Taxation Scenario
17. How to Form Your C Corporation
18. Basic C Corp Requirements
Updated October 26, 2020:
C corporation, or “C Corp” as designated by the IRS, offers the unlimited, for-profit growth potential through the issuance and sale of shares.
What is a C Corporation?
C corporations are the most common type of corporation organized by companies in the United States. Preferred shareholders and common shareholders are investors in a corporation with apportioned rights to earnings distribution, and some influence on board decisions.
Public disclosure of share performance in an annual report is mandatory for C corporations under federal law. The legal structure of a business's C corporation status limits an owner's financial and tort liabilities for losses that may result in the case of a default, negligence lawsuit, or regulatory fine.
An alternative to small businesses registering as S corporations, which allow for “pass through” of earnings to owners who are in turn subject to individual taxation by the IRS, are C corporations, which report all business earnings by the company without an intermediary of such a mechanism. “Limited liability companies” (LLCs) differ from C corporations as well; providing the legal protections of corporations, but serving as “pass through” instruments, like S corporations or sole proprietorships.
An independent legal entity, separate from the members and shareholders, the corporation remains separate from the individuals who own, control and manage an entity. IRS Code Sections C and S determine the type of taxable entity. Corporate tax returns require Form 1120. Businesses listed under C corporation face the possibility of double taxation, where dividend income is distributed to owners, also considered is personal income. Tax on capital gains is a serious consideration when incorporating a business.
Advantages of a C Corporation
There are many benefits of filing C corporation status with state and federal governments. Once approved, a C corporation must file a federal tax return for at least 5 years. C corporations remain official businesses in perpetuity, unless otherwise transferred, under U.S. law.
The C corporation carries a lower risk of an audit by the IRS and can deduct the cost of benefits and expenses. Lenders and suppliers also prefer working with businesses classified as C corporations, as unlimited growth potential and no shareholders limit, means that liquidity is more likely to be present at any given time. A corporation can also sell volume shares to investors, raising more capital for capacity building projects.
Following the guidelines to the Securities Exchange Act of 1934, when a business reaches $10 million in assets and 500 shareholders, the Security and Exchange Commission requires registration of a company as a stock ticker. C corporations have a responsibility to stakeholders, and especially officers and shareholders, and cannot combine company finance with personal debt obligations of any individual associated with the business.
C corporations continue to exist even after the original owners are no longer present. The owners and shareholders of a C corporation automatically have limited liability in relation to business debts and litigation.
Disadvantages of a C Corporation
Taxation is the main drawback of C corporation status. Revenue is taxed twice; both at the company level and shareholder earnings. Filing Articles of Incorporation can also be costly. A C corporation is more expensive to start, and fees are generally a requirement by states in which they operate.
Regulations and formalities associated with C corporation status create the conditions for reporting. Compliance with government oversight and standards generally requires additional time and resources than are demanded of other entities. Tax rules are also more complex, and legal costs to protect a company against losses are common. Distinct from S corporation, “S Corp” entities, shareholders are unable to deduct expenses and losses on their individual income tax returns.
C Corporation vs. S Corporation
Entity size is the main distinguishing factor in separation of S corporation from C corporation businesses. Both may be comprised of officers, directors, and shareholders, yet there are limits strictly imposed on S corporations not part of the complex realm of C corporation ownership and taxation. SEC restriction of S corporations to 100 shareholders versus the unlimited share distribution guidelines for C corporations illustrates the structural limits of small businesses, and those set up for high profitability.
How to Form a C Corporation
Legal name selection of a “doing business as,” DBA fictitious name, should be researched to protect the competitive trade and liability of a company's legal identity. Reservation of a DBA with the Secretary of State in the state where a corporation will be maintained is the first step to setting up a C corporation, followed by the filing of Articles of Incorporation. Issuance of stock certificates with initial shareholders does not require SEC registration until a company lists a ticker on the stock market.
Business license registration and other certification such as permits to meet industry specific rules of operation can be obtained from the state, county, or municipal government in the jurisdiction where the business will be operating. Obtain an Employer Identification Number (EIN) by filing an IRS Form SS-14. C corporations must also apply for a franchise tax ID number in a state where franchise tax payment by corporations is mandatory. Contact the state tax commission or franchise tax board in the state of business registration to find out about the specifications of state tax reporting by a corporation.
Understanding C Corporations Better
Reinvestment at a low tax rate is a major advantage to C corporation status. In sum, a corporation is not only set up to generate business revenues, but serve as leverage for capacity building of a far greater scale over time than individual investors might have accrued by way of a sole proprietorship, partnership, or S corporation.
Maintenance of C Corporation
The C corporation must maintain the governing bylaws on the premises of the primary business location. Filing of annual reports, financial disclosure reports, and financial statements is mandatory under law. One of the requirements of C corporation status is to hold at least one shareholders and directors meeting annually. Minutes must be recorded to exhibit transparency in business operations. A C corporation must maintain the voting records of the company's common shareholders and directors, as well as a list of owner's names and apportionment. Preferred shareholders are not voting members, yet have the advantage of guaranteed earnings distribution, regardless of the annual performance of a business.
Double Taxation in C Corporation
The major downside of owning shares in a C corporation for officers is that taxation of those business earnings is double. The IRS requires C corporations to file business income tax reports, including a record of apportionment. Income after the business expense and salary deductions is subject to tax. The net income distributed to shareholders in the form of dividends is again taxed at the individual level. When profits are left over at the end of the year, dividend distribution to shareholders is income, and individual income, and those earnings must be taxed.
Similarities With S Corporation and C corporation
There are quite a few similarities between C corporations and S corporations. Formation of both corporations is done by filing with the Secretary of State of the jurisdiction where the business will be maintained. S corporations elect special tax status by filing an IRS Form 2553, under Subchapter S of the Internal Revenue Code. C corporations and S corporations both offer owners and shareholders limited liability protection; separating businesses negligence from personal responsibility.
Both types of corporations have shareholders, directors and officers. Shareholders are 100 or less for an S corporation, so growth potential is restricted to a set number of investors, whereas the C corporate has a potentially infinite pool of investing shareholders to draw from. Election of a board of directors is required, regardless of the corporate structure adopted. The board oversees and authorizes corporation affairs, and are not responsible for the day-to-day operations of the organization. Formalities are similar, such as the adoption of bylaws, share issuance, annual director and shareholder meetings, annual report filings, and payment of annual state fees.
Differences With S Corporation and C Corporation
Despite similarities, C corporations and S corporations are distinct in many respects. The tax structure is the most significant difference between S corps and C corps. Small business owners generally file individual tax returns on business income legally subject to “pass through” by an S corporation. The trickle down of revenue and losses recorded by an S corporation is filed in IRS Form 1120S, an informational federal return, and no income tax is paid by the corporation itself. In both cases, personal income tax is drawn on the end of the year stock dividends.
The are no restrictions to C corporation ownership. S corporation rules restrict shareholder status to US citizens/residents. S corporations may not be owned by LLCs, C corporations, partnerships, other S corporations or some trusts. S corporations only distribute preferred shares without voting rights, while C corporations typically have multiple classes, including common share distribution with voting rights. The C corporation structure offers more flexibility overall.
S Corporation (S Corp) Election
Filing IRS Form 2553 is an election of S corporation tax reporting status. The election is effective the current tax year the Form 2553 filing takes place. Filing of Form 2553 election of S corporation status can be done before the 16th day of the third month or March 15th of the tax year. Some states also require a company file S corporation election after approval of incorporation status is authorized.
C Corporation Requirements
C corporation filings must document adequate investment capitalization to be approved. C corporations must also issue stocks to initial shareholders to meet eligibility requirements. Maintenance of a C corporation organization must be evidenced in administration and record of regular director and shareholder meetings. Business transactions must be kept separate from owner expenses for purposes of Corporation tax reporting.
Advantages & Disadvantages of C Corporations
Weighing the advantages and disadvantages of C corporation status is a serious undertaking for an investor's decision about registering a business. C corporation status offers unlimited share issuance and shareholder investment from anywhere in the world. Popular businesses structure the top election by owners. Share diversification, reinvestment potential, and the widest range of deductions and expenses allowed by the IRS make the C corporation the most complex, and most leveraged for-profit option.
One of the main advantages of a C corporation is that owners of the company will be afforded limited liability. The business's obligations cannot become personal debts for members of the company. Members of a C corporation who have access to limited liability protection include:
Two other benefits of C corporations are that they can last in perpetuity and will make your company appear more credible to lenders and suppliers. Forming a C corporation will help you develop stronger relationships with your suppliers and will make it considerably easier for you to find a loan.
A C corporation also has unlimited potential for growth, as you can sell stocks anytime you wish to expand your company when you need financing. Similarly, there are no restrictions to the number of stockholders your corporation can have, unlike S corporations.
C Corporations also have four major disadvantages that must be considered:
- Risk of Double Taxation: C corporations are at risk for double taxation, meaning company profits are taxed both at the corporate level and on the owner's individual returns.
- Start-up Expense: C corporations can be somewhat expensive to form. To establish this type of corporation, you will need to pay a variety of fees, such as a filing fee for your Articles of Incorporation.
- Corporate Formalities: Complex tax regulations apply to C corporations, which means these businesses are subject to more government scrutiny than other business types. C corporations must also follow formalities such as holding annual shareholders meetings.
- Corporate Losses: Unlike other business forms, C corporations do not have the ability to deduct losses.
Tax Advantage: Wide Range of Deductions & Expenses
With the widest array of expense deductions entitled by the IRS, the C corporation allows for reimbursement for employee fringe benefits. Cost deductions for medical and other employee benefit program assets, including all health insurance premiums paid by the corporation, are a tax advantage. Organizations not filed as C corporations have far fewer expense deductions related to the cost of benefits. An employee/shareholder who owns more than 2 percent of a corporation, however, must pay taxes on the full value of benefits received from the company.
C corporations are also beneficial in terms of taxes because of the ability to distribute profits amongst the owners of the company. Allocating profits in this manner can result in big tax savings.
Who C Corps Benefit and Who Shouldn't Use Them
C Corporations are exceptionally beneficial for companies dedicated to the sale of goods. For example, when a C corporation demands cash flow, inventory and other business assets, such as accounts receivable, can be exchanged for factored business loans based on in-house collateral.
How to Avoid the Double-Taxation Scenario
To avoid the biggest glitch associated with C Corp duty, structure the C-Corp for zero inventory and zero profit to take the maximum number of deductions allowed by the IRS, thus reducing net income.
How to Form Your C Corporation
Several steps are required to successfully form a C corporation. First and foremost, you need to choose a name for your corporation. The name of your C corporation should be both legal and distinct. Once you have found a suitable name, you should reserve it with your Secretary of State if name reservation is available for C corporations in your state.
Drafting your Articles of Incorporation is the second step in forming your C corporation. This document will need to include a variety of information, such as the name of your corporation and its physical address. Once you have completed your Articles of Incorporation, this document needs to be filed with your Secretary of State. A filing fee will more than likely be required.
Issuing company stock is step three of C Corp formation. When shareholders purchase your stock they become owners of the company. This is one of the most important steps required for forming your C corporation. Next, you will need to obtain an Employer Identification Number (EIN) for your business. You can apply for your EIN online with the IRS. Without this number, you will not be able to report or pay your corporation's taxes.
Finally, you need to apply for any other required licenses, permits, or identification numbers. There may be numerous state and local regulations that apply to your C corporation. With this in mind, you will need to comply with all of these rules if you want your company to remain in good standing. For example, you will likely be required to pay disability, payroll, and unemployment taxes, which requires a separate tax identification number from your EIN.
Basic C Corp Requirements
C corporations must meet a few basic requirements to be a valid entity. There can be serious consequences for ignoring these formalities, such as your business not being recognized as a C corporation.
First, you need to be certain that you are investing the right amount of money in your corporation. An underinvested C corporation can face major issues. Second, to maintain your corporate status, you need to hold a meeting of your directors and shareholders at least once a year. Third, during your annual meetings, you should be sure to accurately record minutes of the meeting. Accurate record keeping is important for transparency.
Fourth, you should maintain a record of the director's votes during corporate meetings. You should also make sure to maintain a list of your company's owners and the percentage of the corporation that each person owns. Lastly, you need to draft corporate bylaws and keep a record of these bylaws at your corporate offices. Your corporation must also file several documents on a yearly basis, including financial statements, annual reports, and financial disclosure reports.
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