There are different forms of operating businesses in the market, which have a separate legal status and are eligible to pay taxes to the government on the amount of profit earned during the year. One type of corporation which is exempt from tax payment is an S Corporation.
What is an S Corporation?
An S Corporation is a form of business which is charged under the subchapter S of chapter 1, in relation to the claim for tax payments by the entity. The corporation claims to be charged under the specific section and subsection of the Internal Revenue Code.
The workings and operations of an S Corporation entail the suitable division of all the profits and losses incurred by the business, amongst its shareholders. The business itself is not liable to make any tax payment based on the annual profits and income of the company, throughout the year. Rather the rules for tax payment for an S Corporation differ from that of the other types of corporations in the industry.
Tax Payments of S Corporations
A corporation which elects for tax payment rule under the subchapter S and chapter 1 rule as specified by the Internal Revenue Code, is not liable to make any tax payments on the amount of profit earned during a business year. Rather, the income and losses are divided amongst the multiple shareholders of the company. The shareholders of the corporation are required to make tax payments on the amount of income earned by them as profits from the business.
S Corporations evaluate and calculate the total amount of expenses incurred in a year, related to the salaries and benefits paid to the employees, the expenses of furniture and depreciation of equipment, traveling expenses, royalties paid to shareholders, supplies and other office expenses. All these expenses and the loss sustained by the company are deducted against the profits earned by the business during the year, and the income is distributed amongst the shareholders according to their rightful claim. In this way an S Corporation passes on all its earned profit to its investors, thus shifting the tax payment liability to the shareholders themselves.
But some states require a state level tax to be paid by an S Corporation, like in California. In California, the corporation is required to make a tax payment of around 1.5% if the minimum annual income is $800. The losses suffered by the business are also passed on to the shareholders, and are used to offset the benefits or income distributed to the investors.
The state entails that not all income earned by a shareholder can be passed off as personal returns. The IRS requires a suitable wage to be paid to the shareholders of the corporation who are currently employed in the business. If the corporation does not pay salaries to the employed shareholders, and only passes them out as profits, it results in self employment tax savings.
Any S Corporation which neglects to pay suitable salaries to the employed shareholders might come under scrutiny of the IRS, as the authorities practice careful audits to determine if the business is adopting any practices to avoid paying the required amount of taxes to the authorities.