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Who can own an S corporation? Who should?

Income Tax Dancing SchoolImage by Kevin Steele via Flickr

S corporations are popular with entrepreneurs.  Unlike C corporations, they make it easy for owners to be taxed only once on their business income, while avoiding some of the complications of partnership (LLC) taxation. S corporation income is taxed directly to the corporate shareholders, rather than to the corporation itself. Iowa S corporation owners get a special break for out-of-Iowa sales that is unavailable to Iowa LLC owners.

Still, S corporations aren't for everyone. Just this week the Tax Court ruled that Individual Retirement Accounts can't own S corporations (there is a narrow exception for bank S corporations). An ineligible shareholder can be very expensive; if an ineligible shareholder owns a corporation, it is taxed as a C corporation, with a second layer tax applied on any withdrawn dividends. 

So who can own an S corporation? 

  • Individuals.
  • Grantor Trusts.
  • "Qualified Sub-Chapter S trusts" (QSSTs) - trusts owned by individuals that distribute all of their income annually and which file an election with the IRS.
  • "Electing Small Business Trusts" -- trusts that don't qualify as QSUBs but which elect to pay a tax at the trust level, at the top individual tax rate, on their S corporation earnings.
  • Certain tax-exempt organizations, including charities and ESOPs -- but not IRAs.
  • Certain voting trusts and trusts of decedents.
  • Descendent estates.

Who can't?

  • Corporations (except for wholly-owned S corporation subsidiaries).
  • Partnerships.
  • Insurance companies.
  • Certain "split-interest" trusts, like charitable remainder trusts.
  • IRAs (with a limited exception for banks).

Who shouldn't?

  • If a non-ESOP retirement plan or a charity owns S corporation stock, they are subject to "unrelated business income tax" -- a version of the corporate income tax - on their share of S corporation earnings.  This can add much complexity and unhappiness to a charity's tax life.  
  • If you aren't willing to deal with unpredictable income and estimated tax payments each quarter, you probably won't like owning an S corporation.

The decision on what entity you will use for your business is one you should make in consultation with your tax pro.

Offshore Account Update.
  The IRS has extended its amnesty for unreported offshore accounts until Oct. 15.  If you have an offshore account and you haven't filed the TD 90-22.1 form with the U.S. Treasury, the amnesty could be a pretty good deal.  Don't wait until Oct. 14 to see your tax pro if are interested.

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