This content explains the fundamental differences between C corporations and S corporations, focusing on their tax structures, ownership limitations, and implications for business owners, particularly highlighting the tax advantages of S corporations for smaller businesses.
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hello everyone so today we're going to
be quickly defining and comparing the
differences between C corporations and S
corporations so AC Corp is the most
common type of business entity in the
United States as it is a separate legal
entity set up under state law that
protects owner assets from creditors
claims also known as limited liability
AC Corp is a separate taxpayer with
income and expenses tacked tax to the
corporation and non owners if corporate
profits are then distributed to owners
as dividends owners must pay personal
income tax on the distribution creating
what's known as a double taxation so
money is taxed at the corporate
corporate level and then at the personal
income tax level now a simple example
consider a small business that has the
following earnings and they're the same
for years one through three they have a
business tax rate of 30% and a federal
income tax rate of 28 percent so they
earn a million dollars their cost of
goods sold is $150,000 their gross
profit is their 450,000 they have
another another $50,000 and operating
expenses so they have ebin or income
from operations of $100,000 now tax on
this at 30% is 30,000 so their net
income is 70 and the assumption is for
this small business $50,000 is paid out
as a dividend to the owner so you deduct
50,000 and 20,000 goes to retained
earnings right so they get taxed at the
corporate level 30 percent or $30,000
now on the personal income tax form so
now we take those earnings assuming that
this individual does not receive any
other type of salary or income from
other sources they receive $50,000 and
so they paid 28% their personal tax rate
on that $50,000 which is 14,000 so
after-tax earnings from all this money
that flowed through the entity for
starting out when they first earned
revenue - when it was paid out is
$36,000 and so this is done for all
three years okay
now the advantages of C corpse are
limited liability and limit
growth potential and the ability to sell
equity to raise money and that's that's
why all really most public companies are
I see corpse
there's no shareholder limit so there's
no limit on the amount of shares that
can be sold to the number of people and
you have the ability to enjoy tax
deductible business expenses now the
disadvantages of see corpse are the
double taxation that's the big one and
that's why I really made this video
because it remains a challenge as many
owners seeking to be paid through
dividends from the business will pay
extra it's also more expensive than an
LLC or a partnership it there's
increased regulations and formalities
and that's a steep learning curve
especially for small business owners and
there's no deduction of corporate losses
for personal tax returns because that's
done at the corporate level so there's
no flow-through right so that's why it's
a separate taxpayer that's the big
takeaway from see corpse now with s corpse
corpse
once you've incorporated you can elect S
Corp status by filing a form with the
IRS and with your state and as it is
more attractive for small business owners
owners
once applicable the profits losses and
other tax items pass through the
corporation to you and are reported on
your personal tax return so the S
corporation does not pay the corporate
tax so this is considered a flow-through
entity the S corp is not a separate
taxpayer like the C Corp it is a
flow-through entity the risk is that
owners report their share of profit and
loss in the company on their personal
tax returns in addition there is a limit
of 75 shareholders which can be a
challenge if the company considers
raising money through private placement
so that's really the big downside to
this that's why a lot of public
companies are really all private
companies our C corpse because there's a
limit of 75 shareholders because if if
there wasn't then everyone would be an S
corp really because there's so much tax
if it's related to really being a
flow-through entity you know there of
course would be logistical II
complicated with thousands of
shareholders to all reflect you know the
flow-through status but again
theoretically it would be a large benef
so consider the same business so the
business has a tax rate of 30 percent
but they don't pay that 30 percent and
the federal income tax rate on the
personal income tax form of 28 percent
is the same right so no tax is paid at
the corporate level so we make the same
amount of money a million dollars we pay
cost of goods sold of 850 gross profit
is 150,000 operating expenses of 50
thousand are deducted so our income from
operations or EBIT is a hundred thousand
dollars but that's not really all sort
of net income because we don't pay right
so that flows through all of that money
goes to our personal tax form
okay so then on our personal tax form we
have earnings of a hundred thousand for
this year and the assumption here is
also that there are no tax brackets but
I just wanted to simplify it right
because with tax brackets probably your
tax percentage tax rate would increase
between the two examples but in this
case assuming the same twenty percent
tax rate taxes on this hundred thousand
would be to twenty eight thousand right
so after-tax earnings is seventy-two
thousand dollars right so the advantages
of the S Corpse are limited liability
the same as C corpse the key benefit is
passed through taxation thus eliminating
the double taxation on distributions the
ability to raise capital by selling
shares so the same thing except there's
a limit and a once a year tax filing
requirement versus quarterly filing for
C corpse
so that logistically also saves time for
you now the disadvantages are you must
be a US citizen and a permanent resident
unlike the C Corp or LLC you have a
limited amount of shareholders or the
maximum of a hundred at the national
level in some states at seventy-five it
depends on on this so I would recommend
that you check out the laws and
sometimes it change also closer I IRS
scrutiny and high ongoing expenses and
tax qualifications can be terminated
terminated if mistakes are made and so
because you're eligible for S Corp
status there is much more scrutiny from
the IRS so you need to be careful
properly file your tax returns and if
you do make mistakes you can get
penalized by being taken away so that
status is taken away and you convert
back to us C Corp
so the difference between the two both C
and s Corpse offer limited liability
protection both require Articles of
Incorporation to be filed and both
compromised shareholders directors and
officers there are lots of similarities
but they differ in the realm of Taxation
and corporate ownership see Corpse are
subject to double taxation who are s
corpse are passed through tax entities
in addition there is no limit to the
number of shareholders for C corpse
which is most public companies whereas
there is a hundred shareholder limit for
S corpse so comparing those two examples
that we looked at so again the same
business but in this case paid at the
corporate tax there's a corporate tax
and a personal attacks whereas with the
S Corp there's only a personal attacks
right so the after-tax earnings for the
C Corp is 36,000 and the after-tax
earnings for the S corp is 72,000 now
that does a little this incorrectly
reflects it because we still have
retained earnings of 20,000 so a better
way to look at it is the amount of tax
that's paid and that's how you should
really compare your two alternatives how
much should you tax do I pay which is
cash going out of the business and now
really out of my ownership between the
two cases so with the C Corp you pay
$30,000 at the corporate tax level and
you paid $14,000 at the personal level
with S corpse you don't pay at the
corporate level but you pay 28,000 at
the personal level so the difference so
really the combined tax is paid for the
C Corp is 44,000 well for the S corpse
is only 28 so that's a real cash savings
a difference of $16,000 that you saved
on for this respective business for
really $100,000 that was earned in EBIT
right so that's a real benefit for the
owner and that's why you know C s corpse
are considered very beneficial for small
business owners other than that if you
have any questions I do recommend that
you check out a lot of online resources
but if all else you can comment below
and I'll be sure to get back to you as
soon as possible
and if you did like the video please
like and subscribe to the channel for
more thank you so much and have a great day
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