The small business corporation (S corp) is one of the most popular business entities today, offering its shareholders the flow-through tax treatment of a partnership and the limited liability of a corporation. The S corp has become an even more prominent entity in the small business community, in part, because the IRS has relaxed certain requirements for electing S corp status. A small business corporation does not need to elect to be treated as an S corp each year to maintain S corp status.

Special election

To be treated as an S corp, a small business must make a special election under subchapter S of the Tax Code. This special election requires the proper and timely filing of Form 2553, Election by a Small Business Corporation, under Code Sec. 1362. An S corp election is valid only if all shareholders on the date of the election consent to it. For example, if the election is made prior to the start of the tax year for which it is effective, new shareholders between the date of the election and the beginning of the tax year need not also consent to maintain S corp status.

Once a small business corporation properly and timely elects to be treated as an S corp, however, the election remains valid and does not need to be made every year, even if new shareholders do not consent. An S corp election remains effective unless, or until, the election is formally revoked by the shareholders or S corp status is terminated because the corporation no longer meets all requirements necessary to maintain S corp status (for example, there are more than 100 shareholders of the S corp or the S corp has more than one class of stock outstanding).

Filing timeline

An initial S corp election must be made on or before the 15^th day of the third month (i.e. March 15) of the taxable year in order for the election to be effective for that year. If the election is not made until after the 15th day of the third month of the tax year, the election is effective for the following year. A newly formed corporation, on the other hand, that has missed the March 15^th deadline may file Form 2553 any time during its tax year as long as the filing is made no later than 75 days after the corporation has begun conducting business as a corporation, acquired assets, or issued stock to shareholders (whichever is earlier). If an untimely election causes an S corp election to terminate, the IRS possesses discretionary authority to retroactively waive the timely failing requirement.

If you would like more information about electing S corp status, or about the benefits and drawbacks of other business entities, please call our office. We would be glad to assist you.