For businesses in Tennessee that qualify, electing “S corp” status can bring significant benefits. First, an S corporation is considered an individual entity, separate and apart from the business owners, whose personal assets are protected from business litigation. But in addition, the tax benefits are substantial.
S corps (also known as S corporations or S subchapters) get their name from Subchapter S of the IRS Code. They are creatures of federal tax law, which means that similar laws and regulations apply in all states, although some procedural aspects may vary.
To file for S corp status in Tennessee, a business entity must meet certain requirements, and the individuals in charge must submit the proper paperwork.
What Is a Tennessee S Corporation?
The world of corporations contains two common types: S corps and C corps. While both offer the limited liability of the corporate structure, there are significant differences between them. The most important distinctions involve finances, including tax rates, treatment of losses, and profit distribution.
Only companies that qualify can elect to change to S corp status. This type of company is limited to 100 shareholders and can issue only one type of stock.
Why Choose a Tennessee S Corp?
Why might a corporation limit itself by opting for S corp status? The main benefit is a different type of corporate taxation. First, S corps are different than the typical C corp when it comes to taxation.
C corp income is subject to both corporate income tax (21 percent) and also taxed on the shareholder level. However, S corporation income is taxed only once, like sole proprietorships and partnerships.
The net taxable income of an S corp is passed through directly to shareholders. This income, based on each shareholder's percentage of ownership, is taxed as shareholder income. Debts are also passed through to shareholders and can be used in many cases as deductions to offset other income.
Comparison of C Corps and S Corps
Default type on filing.
Shareholders must make election.
Taxed on its net taxable income with a tax rate of 21%.
Business losses that exceed taxable income can be carried forward by company and used in subsequent years.
Business losses immediately benefit shareholders. Since there is a presumed distribution of profits to the shareholders, losses are distributed and can be used to offset other income.
Shares can be owned by foreigners and other corporations; have more than 100 shareholders; and can have multiple classes of stocks.
Shares can be owned only by U.S. citizens and residents; are limited to 100 shareholders; can have only one class of stock; and cannot be owned by C corps, most other S Corps, LLCs, partnerships or trusts.
S Corp Election in Tennessee
The default status of a corporation in Tennessee is C corp. That means that anyone who incorporates a business in Tennessee – by filing corporate articles of incorporation with the Tennessee Department of State – receives a certificate of incorporation listing the company as a C corp.
It is at this stage that shareholders can make an election to change the status to an S corporation if they meet these legal requirements:
- Be a domestic corporation.
- Have no more than 100 shareholders.
- Be owned only by U.S. citizens and residents.
- Have only one class of stock.
Making the election to an S corp also requires unanimous approval of the shareholders, each of whom must sign IRS Form 2553, Election by a Small Business Corporation.
Filling Out IRS Form 2553
This form has instructions and is not difficult to fill out. However, note that the Employer Identification Number asked for in box A is the corporation's EIN, available from the IRS. This is essentially the S corp's equivalent of an individual Social Security number.
Box K is the place for shareholder signatures and must include signatures of every single shareholder who owns or will own stock at the time the election is made.
While all applicants must fill in Part I, Part II need only be completed if the company selected a tax year ending on a date other than December 31. And Part III applies only if one of the shareholders is a qualified Subchapter S trust, that is, a Subchapter S trust with only one income beneficiary, a U.S. citizen or a resident to whom all of the income is distributed.
Once completed, IRS Form 2553 must be mailed to Internal Revenue Service, 324 25th St., Ogden, UT 84401.
Frequently Asked Questions
Should I be an S corp in Tennessee?
This question must be answered by the shareholders of a Tennessee corporation. While it is necessary to limit the number of shareholders and the type of shares, making an S corp election can be beneficial for tax purposes.
Is it better to be a C corp or an S corp?
Both types of corporations have advantages. They share the benefit of offering an individual limited personal liability for corporate debts. If you want the company to be able to have more than 100 shareholders, an S corp will not work, nor does this corporate form permit the company to issue more than one type of stock. However, both profits and losses of the corporation are passed directly through to the shareholders, so use of an S-corp form avoids double taxation.
How are S corps taxed in Tennessee?
In Tennessee, business taxation is based on federal law. All net S corp income is distributed directly to shareholders based on their shares of company ownership, and pass-through taxation applies. That is, shareholders must declare their share of S corp income as their own income and pay tax at their individual state and federal income tax rates.
How much does it cost to start an S corp in Tennessee?
No fee is required to file an S corp election with the IRS. However, Tennessee charges a filing fee of over $100 to file incorporation papers for a Tennessee corporation, and there can be other fees. Every year the corporation must file an annual report and pay a state fee of $20 to do so. It may be necessary to pay an attorney to fill out the forms, which would result in attorney fees, and if the S corp has to pay someone to serve as an agent, that would likely be an additional expense.
Teo Spengler earned a JD from U.C. Berkeley Law School. As an Assistant Attorney General in Juneau, she practiced before the Alaska Supreme Court and the U.S. Supreme Court before opening a plaintiff's personal injury practice in San Francisco. She holds both an MA and an MFA in English/writing and enjoys writing legal blogs and articles. Her work has appeared in numerous online publications including USA Today, Legal Zoom, eHow Business, Livestrong, SF Gate, Go Banking Rates, Arizona Central, Houston Chronicle, Navy Federal Credit Union, Pearson, Quicken.com, TurboTax.com, and numerous attorney websites. Spengler splits her time between the French Basque Country and Northern California.