Are You Elegible to Form an S Corporation?

S Corporation Eligibility

Eligible S corporations can't have more than 100 owners, can only one class of stock & must have individual owners who are US citizens or permanent residents.

August 25, 2016

S corporation eligibility can sometimes be an important issue when forming a corporation.

When a corporation is created, as a default, it is taxed pursuant to Subchapter C of the Internal Revenue Code. This is known as a C corporation.

Since C corporations are subject to “double taxation” (they are taxed once at the corporate level and again at the individual level), many businesses opt to be taxed pursuant to Subchapter S of the Internal Revenue Code (S corporation taxation).

The S corporation provides excellent tax advantages for business owners.

Unfortunately, not everyone is eligible and not all businesses can be S corporations.

A corporation is only eligible for an S corporation election if the following ownership requirements are satisfied:

Number of Owners Can’t Exceed 100

S corporation are restricted by the number of owners (also known as shareholders) the corporation can have. Specifically, the corporation cannot have more 100 shareholders (a husband and wife qualify as one shareholder). This is obviously a rare eligibility issue for most small businesses. In fact, many S corporations have only one owner.

All Owners Must Be U.S. Citizens or Permanent Residents

This eligibility requirement can be a larger hurdle. All shareholders must be citizens or residents of the United States. Non-resident aliens may not hold shares. Basically, eligibility to form an S corporation is based on the owners having a permanent right to remain in the United States.

All Owners Must Be Individuals

All shareholders must be individuals and not other corporations or LLCs (estates, some exempt organizations and certain trusts qualify as shareholders). Many businesses are owned by other entities. This eligibility requirement can create a barrier to those seeking unique ownership structures.

Only One Class of Stock Is Permitted

There can only be one class of stock in the company (differences in voting rights are permitted). This eligibility requirement often results in opting for a C corporation instead. C corporations are well established in providing different classes of stock which offer different rights and voting power.

Business Category Restrictions

The company making the election cannot be a bank or thrift institution, an insurance company, or a domestic international sales corporation.

Owner Consent

Each shareholder must consent to the S corporation tax status.

Passive Investment Restrictions

No more than 25% the company’s gross corporate income may be derived from passive investment activities.

Timely Filing

New S corporations are required to file the S Corporation election (IRS Form 2553) within 75 days of incorporation.