S Corporation Election

A tax election, not a kind of company - what electing S status does to how a corporation or LLC is taxed, who is eligible to make it, and how it is lost.

Looking for a lawyer rather than a definition? Skip to the state-by-state list of law firms for this.

What it means

An S corporation is not a separate type of business entity. It is an ordinary corporation, or an LLC that has chosen to be taxed as a corporation, that has elected under Subchapter S of the Internal Revenue Code to have its income, losses, deductions and credits passed through to its owners and reported on their personal returns, instead of being taxed at the company level and again when distributed. The entity itself is still formed, governed and sued under state law exactly as before; only its federal tax treatment changes, and the state's treatment follows only where the state has chosen to conform.

Eligibility is what makes the election fragile. The code limits how many shareholders an S corporation may have and who they may be - individuals, certain trusts and estates, and not partnerships, most corporations or non-resident aliens - and permits only one class of stock, so that every share carries identical rights to distributions and liquidation proceeds. The election is made on a form signed by every shareholder and, to take effect for a given year, must be filed within a window early in that year. Admitting an ineligible shareholder, issuing a second class of stock, or an LLC operating agreement that allocates distributions unequally can terminate the election involuntarily, sometimes without anyone noticing until an audit.

The election is usually made to reduce self-employment tax: an owner who works in the business is paid a salary, subject to payroll taxes, and takes the remaining profit as a distribution that is not. The Internal Revenue Service requires that salary to be reasonable compensation for the work actually done, and recharacterises distributions as wages when it is not. Whether the election saves anything depends on the owner's facts, the state's treatment of S corporations, and the cost of running payroll.

Where this comes from

When people hire a lawyer for this

A business owner considering the election should have both a tax adviser and a lawyer look at it, because the tax saving is an accounting question and the eligibility rules are a drafting question: the operating agreement or shareholders' agreement has to keep every owner and every share inside the code's limits for as long as the election is meant to last. An owner who has just learned the election may have terminated should get advice before filing anything, since relief for an inadvertent termination exists but has to be requested properly.

Worried about the cost? A lawyer can be hired for one part of a case only (limited-scope representation), may be paid from what a claim recovers (contingency fee), or may be free through a pro bono programme or legal aid; a court can also waive its own filing fees.

Find a lawyer for this in your state

Choose your state. Each link opens the Business Organizations directory page for the city in that state with the most currently published law firms that list this work; where a state has more than one, the others open under it. Where a state has no Business Organizations listing yet, the link opens the broader Business Law page instead and is marked so. The list is generated when this page loads, so a state whose listings have lapsed drops out rather than becoming a dead link.

• Alabama (Birmingham)
  +1 other city

  • Montgomery
• Alaska (Anchorage)
• Arizona (Chandler)
  +6 other cities

  • Gilbert
  • Glendale
  • Mesa
  • Phoenix
  • Scottsdale
  • Tucson
• Arkansas (Little Rock)
• California (Sacramento)
  +19 other cities

  • Modesto
  • San Jose
  • Stockton
  • Anaheim
  • Bakersfield
  • Chula Vista
  • Fontana
  • Irvine
  • Long Beach
  • Los Angeles
  • Oakland
  • Oxnard
  • and 7 smaller
• Colorado (Denver)
  +2 other cities

  • Aurora
  • Colorado Springs
• Connecticut (Bridgeport)
• Delaware (Wilmington)
• District of Columbia (Washington)
• Florida (Orlando)
  +5 other cities

  • Hialeah
  • Jacksonville
  • Miami
  • St Petersburg
  • Tampa
• Georgia (Atlanta)
• Hawaii (Honolulu)
• Idaho (Boise)
• Illinois (Chicago)
• Indiana (Fort Wayne)
  +1 other city

  • Indianapolis
• Iowa (Des Moines)
• Kansas (Wichita)
• Kentucky (Lexington)
  +1 other city

  • Louisville
• Louisiana (Baton Rouge)
  +2 other cities

  • New Orleans
  • Shreveport
• Maine (Portland)
• Maryland (Baltimore)
• Massachusetts (Boston)
• Michigan (Detroit)
• Minnesota (Minneapolis)
  +1 other city

  • Saint Paul
• Mississippi (Jackson)
• Missouri (Kansas City)
  +1 other city

  • St. Louis
• Montana (Billings)
• Nebraska (Lincoln)
  +1 other city

  • Omaha
• Nevada (Henderson)
  +3 other cities

  • Las Vegas
  • North Las Vegas
  • Reno
• New Hampshire (Manchester)
• New Jersey (Newark)
  +1 other city

  • Jersey City
• New Mexico (Albuquerque)
• New York (Buffalo)
  +2 other cities

  • New York City
  • Rochester
• North Carolina (Charlotte)
  +5 other cities

  • Durham
  • Raleigh
  • Winston-Salem
  • Fayetteville
  • Greensboro
• North Dakota (Fargo, Business Law)
• Ohio (Columbus)
  +3 other cities

  • Cincinnati
  • Cleveland
  • Toledo
• Oklahoma (Oklahoma City)
  +1 other city

  • Tulsa
• Oregon (Portland)
• Pennsylvania (Pittsburgh)
  +1 other city

  • Philadelphia
• Rhode Island (Providence)
• South Carolina (Columbia)
• South Dakota (Sioux Falls)
• Tennessee (Nashville)
  +1 other city

  • Memphis
• Texas (Austin)
  +12 other cities

  • San Antonio
  • Dallas
  • Garland
  • Irving
  • Plano
  • Arlington
  • Corpus Christi
  • El Paso
  • Fort Worth
  • Houston
  • Laredo
  • Lubbock
• Utah (Salt Lake City)
• Vermont (Burlington)
• Virginia (Richmond)
  +3 other cities

  • Chesapeake
  • Norfolk
  • Virginia Beach
• Washington (Seattle)
  +2 other cities

  • Spokane
  • Tacoma
• West Virginia (Charleston)
• Wisconsin (Milwaukee)
  +1 other city

  • Madison
• Wyoming (Cheyenne)

Related terms

Other entries in the same area of law, each written from the same primary sources.

• Asset Purchase vs Stock PurchaseThe two ways to buy a business - buying what it owns or buying the entity that owns it - and why the choice decides which liabilities come with it, which contracts transfer, and how the price is taxed.
• Breach of ContractA failure to do what a binding agreement required - and the question a court actually asks is not whether someone broke a promise but what the loss was and whether it could have been avoided.
• Buy-Sell AgreementThe contract between co-owners of a business that says what happens to an owner's share when they die, leave, divorce or go bankrupt - who must or may buy it, at what price, and with what money.
• DBA (Fictitious Business Name)A registered trade name under which a person or company does business - which tells the public who is behind the name and does nothing else.
• Fiduciary Duties and the Business Judgment RuleThe duties of care and loyalty that directors, officers, managers and controlling owners owe the business, the rule that protects honest decisions that turned out badly, and the derivative suit that enforces them.
• Franchise Disclosure Document (FDD)The document a franchisor must give a prospective franchisee before any contract is signed or money changes hands - what the federal rule requires it to contain, what it does not promise, and the state laws that add registration and relationship rights.
• General and Limited PartnershipsA general partnership can be formed by conduct with no paperwork and makes every partner personally liable; a limited partnership requires a filing and shields the partners who do not manage. What each is, and the LLP and LLLP variants.
• Indemnification and Hold Harmless ClausesThe contract provision under which one party agrees to cover another's losses and defend it against claims - what it usually reaches, the state laws that void some of it, and why insurance is the other half of the promise.
• Independent Contractor vs EmployeeTwo legal categories of worker with very different consequences for taxes, overtime and liability - and a label in a contract does not settle which one applies.
• Letter of Intent (LOI) and Term SheetThe preliminary document that sets out the main terms of a deal before the contract is drafted - which parts of it are usually binding, which are not, and how a "non-binding" letter still creates obligations.
• Limited Liability Company (LLC)A business form that shields its owners from most business debts while staying simpler to run than a corporation.
• Non-Compete AgreementA promise not to work for a competitor or start a competing business for a period after a relationship ends - enforceable in some states, sharply limited in others, and void in a few.
• Non-Disclosure Agreement (NDA)A contract restricting what one or both sides may do with information the other shares - and, unlike trade secret law, it binds only the person who signed it.
• Operating AgreementThe private contract among an LLC's owners that decides who controls the company, how money is split, and what happens when someone leaves - or the state's default rules decide it for them.
• Personal GuaranteeA promise by an individual - usually a business owner - to pay a company's debt personally if the company does not, which puts the owner's own assets behind the loan or lease regardless of the entity's liability shield.
• Piercing the Corporate VeilThe exception under which a court holds an owner personally liable for a company's debts, despite the limited liability the company normally provides.
• Registered AgentThe person or company a business entity must designate to receive lawsuits and official notices on its behalf - and the address at which a default judgment can quietly begin.
• UCC Financing Statement (UCC-1)The public notice a lender files to stake its claim on a borrower's equipment, inventory, receivables or other business property - the filing that decides who gets paid first when a business fails.

« All glossary terms