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Converting from an S to a C Corporation

Will Converting to a C Corporation Help You? 5 Things to Consider

Due to the lower corporate tax rates—thanks to new tax laws passed last year—C corporations might be the new popular kid in school. If you own or run an S corporation, it might be worth looking into converting to a C corporation—but make sure to consider all the details.

Why the S Corporation Became So Popular

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The S corporation was introduced to address the double taxation faced by C corporations as taxes were levied against both the corporation and the shareholders. S corporations changed the game by allowing the owners to report earnings on their individual tax returns rather than at the corporate level. It quickly became the most popular corporate structure, more than doubling the number of C corporations in 2014, according to the IRS.

Tax Changes are Shifting Things

The new tax laws passed in 2017 lowered the federal corporate tax rate to a flat 21%. As a result, some S corporations may find that converting to a C corporation provides more advantages than sticking with the S corporation structure. In fact, we have seen several of our clients recently make the transition.

Why Convert to a C Corporation?

Is converting to a C corporation from an S corporation for you? Here are three reasons why it might make sense:

  1. The combined state and federal C corporation tax rate of about 25% is now lower than the combined individual tax rate of 35-45% for many wealthy S corporation shareholders. When also considering the dividends taxes imposed on C corporation shareholders, there is now greater parity between the two structures.
  2. You may be able to retain more capital. As mentioned above, the overall tax obligation of a C corporation that does not pay dividends is likely lower than the personal tax obligation of an S corporation shareholder.
  3. You get greater flexibility with shareholders. An S corporation is limited to a maximum of 100 shareholders whereas C corporations don’t have an imposed limit. Further, a C corporation can issue multiple stock classes, whereas an S corporation is limited to a single class of stock.

Why You May Not Want to Convert to a C Corporation:

While making the shift from S to C may make a lot of sense for your business, it isn’t for everyone.

  1. If you convert to a C corporation, you can’t switch back for five years. And given how unpredictable a government’s views on tax laws can be, we don’t know what might change in even a few years’ time.
  2. When you dig in, you may find that the lower federal tax rate for a C corporation doesn’t offset the other benefits of being an S corporation.

Should You Change to a C Corporation?

Converting to a C corporation is a simple process; however, it should not be taken lightly. For one thing, if you make the jump from S to C, you can’t go back for five years. So while the tax changes are “permanent,” we all know that things in DC can (and will) shift at some point.

If you have further questions about whether or not you should convert, we would love to discuss it with you. Ultimately, you should consult your tax and legal advisors and then decide what’s best for your company.

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