Question: What is the Benefit of Electing S Corporation Status?

An S corporation is a corporation in which the taxes pass through to the owners. S corporations are formed by first incorporating a business in a state, then electing S corp status with the IRS.

Answer:

Benefits of S Corp Status
The benefits of electing S corporation status for your corporation include:

The liability protection of a corporation.

Because an S corp is a corporation, it retains the separate entity protection of a corporation, and the corporate shield of protection against liabilities protects the owners from lawsuits or responsibility for debts of the corporation, in many cases. Of course, this liability protection is not absolute, and it can be broken if owners personally guarantee loans, or if owners commit acts which include them in responsibility for actions of the corporation.

A reduction in income taxes. A sole proprietor or partners in a partnership pay tax on the entire profit of the business. But in an S corp the owners are employees and are paid a salary, which reduces the profits of the S corp, which in turn reduces taxes.

A reduction in self-employment taxes (Social Security/Medicare for business owners). Owners of sole proprietorships and partners in partnerships must pay self-employment tax on total profits. In an S corp, on the other hand, the profits are reduced by the amount paid to owners as employees, so the total self-employment tax bill for the S corp is lower.

For example, a sole proprietorship with $100,000 in profit must pay $15,300 in self-employment tax. If an S corp pays $50,000 in wages to owners as employees, that self-employment tax bill is cut in half. Yes, the company must pay half of FICA taxes (Social Security/Medicare tax for employees), but the company's total tax bill is lower.

Avoiding double taxation.An S corp has an advantage over a corporation, because the S corporation does not have double taxation. A corporation pays corporate income tax on its profits, then the owners are taxed on the dividends they receive (from the profits), resulting in double taxation. In an S corp, on the other hand, the corporation doesn't pay income tax; the owners pay income taxes based on their respective shares of the profits.

S corp losses can reduce owner taxes. If the S corp has a loss, each owner's share of that loss is passed through to the individual income tax return. If the owner has other income, the loss can reduce all or part of that income.

S corp profits are taxed at individual rates. Because S corp profits are taxed to the owners personally, the taxes may be less than the corporate tax rate (effectively 35%, depending on the income level), so the tax may be lower, depending on the individual owner tax rate.