You Missed Your S Corporation Deadline!
created a corporation through which to run your business and you wanted to elect
to be taxed as an S Corporation. However,
no one involved remembered to make the election?
What do you do now? This
could be very costly from a tax standpoint.
back up for a moment and discuss the meaning of all this for those who may not
be as familiar with S Corporation status.
election to be taxed under Subchapter S of the Internal Revenue code allows the
taxation of the earnings of the corporation at the shareholder level rather than
at the corporate level. The
corporation files Form 1120S, U.S. Income Tax Return for an S Corporation, which
includes a Schedule K-1, Shareholder’s Share of Income, Credits, Deductions,
Etc. The Schedule K-1 is given to
the shareholder; you in this case, and the items of income from the corporation
are reported on the shareholder’s personal tax return. The corporation generally does not pay income tax.
would you want to do this? You do
this because it avoids double taxation. Assume
that your business earns $100,000. Let’s
further assume that the tax rates on both corporations and individuals are 28%
just to keep it simple. The
business would pay $28,000 in income tax leaving $72,000 to distribute to you as
a dividend. You would pay taxes of
$20,160 on the dividend. The
total cash left would be $51,840. If
the corporation were an S Corporation, the corporation would pay no tax,
$100,000 could be distributed to you, and you would pay tax of $28,000.
This would leave you with $72,000 after tax.
Being an S Corporation saves you $20,160.
order for the election to be in effect, it must be made within 75 days of the
corporation beginning business or first having assets.
If the corporation has been in existence for a while, the election must
be made within the first 75 days of the tax year.
Your missing this election can cost you $20,160 if your facts are the
same as the example above. So what
do you do?
you have an existing corporation, you must find a way to defer income or
accelerate expenses at the corporate level.
Hopefully you have discovered the error of not filing the election before
yearend or very soon thereafter. Since
the election should have been made by March 15 of your tax year, you’ve had
nine and a half months to discover the error.
easy way of fixing the problem is to pay yourself a bonus equal to the income of
the corporation. The bonus will be
deductible and reduce your corporate taxable income to zero.
You will report the bonus on your personal income tax return.
The end result is that you accomplish the same tax result as you would
have if the election had been made properly and on time.
You need to treat the payment as employment income, withhold the proper
amount of employment taxes and report them on your employment tax forms.
If you do not, the payment may be reclassified as a dividend, which is
not deductible by the corporation.
for some reason you cannot, or do not wish to, pay yourself a bonus, you will
have to find other expenses that you can accelerate into the current year or
income that can be deferred into the following year.
If your business is on the cash basis for tax purposes, you can prepay
expenses. If you have a good
relationship with your customers, you can ask them not to pay you until the
following year. If you’re on the
accrual basis, you can step up your purchasing at the end of the year and make
sure your vendors bill you before yearend.
You can also delay providing products or services to your customers until
after yearend if your customers agree.
you can see, it can be difficult to fix a missed election in an existing
corporation so do not miss it. If
the corporation has a small amount of taxable income, the ideas above will work
fine. If the corporation has a
large amount of income, the bonus scenario is your best bet coupled with as much
income deferral and expense acceleration as you can safely do.
Be aware of the deadline and the ramifications of missing it.
your corporation is new and you missed your election for the first year, the
above discussion of paying yourself a bonus, deferring revenue and accelerating
expenses is still valid. However,
you do have an additional option available.
new corporation is allowed to adopt any fiscal yearend it desires.
Let’s assume you started your business on May 1 and realize on July 25
that you missed the deadline for filing the S Corporation election by ten days.
Your business has been in the startup phase for some of this time.
You should elect to cut off your first yearend at July 31 and immediately
file your S Corporation election to be effective for your second tax year
beginning August 1. Therefore, your
first taxable year will be for a short period of three months.
Your first year corporate tax return will be due October 15 and can be
extended an additional six months. Make
sure you file this return on time. If
you can’t defer enough income or accelerate enough expenses to zero out the
corporation’s income for this short period, you’ll want to capitalize your
startup costs and amortize them over five years.
While this will spread out the expense over a period longer than you
would like, it will make all the startup expense deductible in years covered by
your S Corporation election. This
election must be made on a timely filed return, so do not file your first year,
short period return late!
you established July 31 as your fiscal yearend for your new company, but you are
not stuck with it. In fact, when
you make the election for your second tax year beginning August 1, you will have
to agree to switch your yearend to a “conforming yearend” which generally
means a calendar year. So your
second yearend will begin August 1 and end on December 31.
Every year thereafter will be on a normal calendar year cycle.
a bit of administration to make this work, but it works well and it’s better
than being subject to double taxation.
prevent problems like this from occurring, prepare a tax calendar each year that
plainly sets out all your tax-related deadlines.
you have questions regarding these techniques, please let us know.
We’ll be glad to help.