If you have a C Corporation, then you will need to file a Form 1120 (the “C” in the name refers to the section of the IRS tax code). Even if you own all or a part of the company, the IRS does not consider you to be self-employed. As a result, you will not only have to file a Form 1120 but a 1040 for yourself.
The big knock against a C Corporation is “double taxation.” To see why, here’s an example:
ABC Corp. generates a profit of $10,000 for the year. On Form 1120, the company will pay a tax. Let’s say it amounts to 15% or $1,500. Then, when this is distributed to the shareholders via a dividend, there will also be taxes owed on this too!
Bad deal, huh? Well, for the most part, owners of C Corporations find ways to avoid this. Generally, this includes increasing salaries, fringe benefits or leasing assets, which are deductible. The result is that there will be a loss or break-even for the C Corporation – and there will be no corporate taxes owed.
If there is an operating loss, then it belongs to the C Corporation. It does not pass through to the shareholders. But the operating loss can be applied to future profits.
As for Form 1120, it is required to be filed whether a C Corporation generates any income or not. The due date is also on March 15th (this is assuming the corporation is using a calendar year). If the deadline cannot be met, there is the option for a 6-month extension. But of course, any taxes owed must be paid by March 15th.
If a C Corporation retains earnings, the tax rates are generally more favorable than for an individual (especially when you add the requirement for self-employment tax, which is not included on Form 1120). This is the case up to $100,000. After this, there is a surcharge that wipes out the advantage.
But all this brings into play “income splitting.” That is, you can leave up to $100,000 in the C Corporation and then devote the rest of the money to fringe benefits.
This can turn out to be a tax-savvy move. The fringe benefits – such as health insurance and medical reimbursement plans — may not only be tax deductible for the C Corporation but are usually tax-free for the employee.
Other things to consider with a C Corporation include:
- When setting up a C Corporation, you might want to issue Section 1244 stock. You will get better tax treatment if there is a loss.
- A C Corporation can take deductions for charitable contributions
- There will be an annual franchise tax for the state
- Make sure you abide by the requirements of the C Corporation (such as keeping the minutes, providing reports, having meetings and so on). If not, the IRS may invalidate the entity and you could face serious tax consequences.
- The salaries must be reasonable for the duties. The IRS really likes to focus on this for audits.
How Can Pathway Tax Help? Our firm is licensed by the IRS to represent taxpayers across all 50 states. We also have a free initial consultation.