S Corporations remain the most common type of business in the United States, according to the Internal Revenue Service (IRS). The main reason companies choose the S Corp election is to avoid double taxation of the C Corp. Another reason why other entities, such as partnerships and limited liability companies (LLCs), choose S Corp status is to save on employer taxes.
Steps To Revoke S Corp Elections
However, for whatever reason, business owners may decide that the S Corp election no longer works for them.
Why It Might Be Time to Revoke an S Corp Election?
While the S Corp makes sense for many small businesses, the following may be reasons to revoke your S Corp status.Lower corporate tax rate: Under the Tax Cuts and Jobs Act of 2017, the fixed corporate tax rate is 21%. Becoming a C Corp can be an economical choice for companies with significant income.Too many shareholders: S Corps are limited to 100 shareholders. If a company wants to attract more than 100 shareholders/investors, it must withdraw its S Corp election.Shareholder Restrictions: S Corps can only offer one class of stock. Also, all shareholders must be US citizens or resident aliens. Allocation of income: The S Corp election bans any flexibility in income distribution. Each owner/shareholder must share in the company’s income in direct proportion to their ownership. Investment Restrictions: Venture capitalists should not invest in S Corps. An IPO is also not possible due to the limited number of shareholders allowed.
Revoke the S Corp Election
If you decide to revoke your S Corp statute, the S Corp revocation deadline is the 16th day of the third month of the tax year in which you wish to revoke the election. For example, if the tax year for the company is a calendar year, the revocation must occur on March 16, so that the revocation is active from January 1.
Here are the steps for the withdrawal of S Corp:
Step 1. Go vote
Shareholders must vote on the withdrawal of S Corp and more than half must agree. Documentation is required that the vote has taken place. (Note: A unanimous vote of shareholders is required to elect S Corp status, but withdrawal only requires a majority vote.)
Step 2. Write a letter to the IRS
While there is no official IRS form to file, the IRS has specifically set out what must be included in the revocation statement, beginning with “The company revokes the election made under Section 1362(a).” Also include:Name of the shareholder(s)Address of the shareholder(s)Taxpayer identification number of the shareholder(s)The number of shares owned by the shareholder(s)The date(s) the shares were acquiredThe date on which the taxable year of the shareholder endsThe name of the S-companyThe S-corporation’s END Election to which the shareholder(s) revokeThe declaration must be signed by the shareholder(s) under penalty of perjurySignature and consent of the shareholder(s) who together are more than 50 own % of the number of issued and outstanding shares of the company (with or without voting rights) Indication of the effective date of the withdrawal (or expected date) Signature of the person authorized to sign the declaration
You must then submit the declaration of revocation to the service center, where you will submit your annual declaration.
What if you miss the withdrawal period?
If you miss the revocation deadline, your company will continue to be taxed as an S Corp. for the remainder of the tax year. However, if the company involuntarily revokes the S Corp election by violating any of the S Corp Rules, the S Corp will be taxed as a C Corp. regardless of whether the withdrawal has been filed or not.
Reasons for losing an S Corp election involuntarily include having too many stockholders or a stockholder without U.S. citizenship. In addition to the above conditions, the S Corp may not earn more than 25% of passive income for three consecutive years. Passive income is money that is not generated by the activity of the business, but from passive sources such as investment income. If the company was previously an LLC, it will again become a C Corp for tax purposes unless it qualifies for taxation as a partnership or a single member LLC.
Finally, the filing date for revocation is generally the statement ship date (determined by the postmark) of the U.S. postmark. Be sure to include the exact date you want the S Corp withdrawal to take effect, otherwise the IRS will automatically execute the active withdrawal in January of the same tax year.
This post Steps To Revoke S Corp Elections was original published at “https://smallbiztrends.com/2022/03/revoking-s-corp-election.html”