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Texas Corporation
(S Corporation or C Corporation)
Corporations in General
Forming a Texas corporation creates a legal entity that exists separate and apart from its owners. As such, the owners of a Texas corporation, if drafted and managed properly, enjoy liabilty protection from the debts and obligations of the entity. The owners of a corporation are known as shareholders and the persons who typically manage the business and affairs of a corporation are known as directors.
To form a Texas corporation or to incorporate in Texas you must file a Certificate of Formation (formerly known as Articles of Incorporation) with the Texas Secretary of State.
S Corporation
The S Corporation is a regular corporation for state law purposes except the shareholders have elected, under Subchapter S of the Internal Revenue Code, to be an S Corporation and therefore treated as a partnership for income tax purposes. Unless the corporation and its shareholders make this S Corporation election (typically completed by the corporation’s accountant), the corporation itself is subject to taxation on its income. S Corporations are subject to very technical rules of federal income tax law regarding the qualification and maintenance of S Corporation status. As with a C Corporation, shareholders of S Corporations are generally not liable for debts or claims against the corporation unless they have otherwise agreed to be obligated for such debts by a personal guarantee.
To qualify for S Corporation status, the corporation must meet the following requirements: (1) Be a domestic corporation; (2) Have only allowable shareholders (allowable shareholders includes individuals, certain trusts, and estates and does not include partnerships, corporations or non-resident alien shareholders); (3) Have no more than 100 shareholders; (4) Have one class of stock; (5) Not be an ineligible corporation i.e. certain financial institutions, insurance companies, and domestic international sales corporations.
Advantages of a Texas S Corporation over a Texas LLC
One of the advantages of an S Corporation over an LLC involves the payment of self-employment taxes.** The self-employment tax rate is 15.3%. The rate consists of two parts: 12.4% for social security and 2.9% for Medicare. A shareholder in an S Corporation is only subject to self-employment tax on such shareholder’s share of the S Corporation’s income to the extent that it is attributable to services performed by the shareholder on behalf of the S Corporation. Any amount that is in excess of the amount attributable to services performed is considered a return on the shareholder’s investment and is not subject to self-employment tax. On the other hand, distributions of income to the members of an LLC can be subject to self-employment tax. The ability to minimize self-employment tax can be a huge benefit. Should you have questions about self-employment tax, including the implications of your entity decision and IRS elections, you should consult your tax professional.
Form a Texas Corporation
If you need to form a Texas corporation quickly, contact our Texas corporate formation lawyer today.
**The American Jobs and Closing Tax Loopholes Act of 2010 included a provision (Section 413) intended to prevent business owners (if the principal asset of such business is the reputation and skill of 3 or fewer employees) from routing their self-employment income through an S corporation to avoid paying Social Security and Medicare taxes. The legislation only applied to "professional service businesses" which are defined as any trade or business if substantially all of the activities of such trade or business involve providing services in the fields of health, law, lobbying, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, investment advice or management, or brokerage services. For a detailed analysis of the proposed legislation, you can read more at WebCPA.com.
****UPDATE****Section 413 was removed from the final bill that was signed into law on July 22, 2010. As such, the owner(s) of an s corporation can still take advantage of the self employment tax savings for the time being.