An LLC (limited liability company) is an entity formed to run a business according to state law. This type of entity comes with some of the advantages of a corporation but is less difficult to operate and form. When you create a business entity, it will automatically receive a tax classification. However, you can change it by filing certain forms and meeting the necessary requirements.
An LLC with multiple owners will be automatically taxed as a partnership, and LLCs with a single owner are treated like a sole proprietorship for tax purposes. We’ll go over your options for being taxed as a corporation and other considerations for S-Corps in Arizona.
What to Consider with Forming Corporations in Arizona
- The majority of LLCs will keep their default tax classification, but some will choose to be taxed as a corporation.
- Before you choose a classification, it’s important to understand the full implications of each option
- C corporation owners might be subjected to double taxation, so many people avoid this classification
- A business attorney can be a valuable asset when you’re working out tax details for your new business
If you choose for your LLC to be taxed as a corporation, you must also select either an S-Corp or C-Corp classification. The IRS will categorize the business as a C-Corp by default, but qualifying LLCs may fill out Form 2553 and elect an S-Corp classification instead.
C corporations can have as many members or shareholders as desired and will use Form 1120 to file their corporate taxes. C-Corp owners will pay taxes through their personal income for the profits earned by the business. In addition, the corporation is taxed separately from the individual, which means that C corporations might be double taxed.
If your corporation has fewer than 100 shareholders, you might be qualified to select the S corporation classification using Form 2553. You must also meet other requirements, such as having one type of stock and having members who are resident aliens or American citizens. The main benefit of this classification is your corporation being treated as a “pass-through” (also called “flow-through”) entity for tax purposes.
As an LLC owner who is taxed as an S corporation, you will cover your percentage share of losses and profits for the company on your personal tax forms. You must pay self-employment taxes on what you earn.
Other Tax Considerations for S Corporations
S corporations report their deductions and income similarly to partnerships. You will file Form 1120S to report deductions, income, tax credits, profits, and losses for the year. However, S corporations differ from partnerships when it comes to the employment status of owners who work for the company. If you’re an LLC owner and the LLC is being taxed as a partnership, you won’t be considered an employee of the LLC by the IRS.
S Corporation Owner/Employee
If you’re an S corporation owner and you fulfill more than small services for the business, you’ll be considered an employee and owner for tax purposes. As an owner/employee, you must receive compensation (a reasonable salary) for your services, in addition to other compensation provided by the corporation.
You must report S-Corp earnings on your personal tax return and cover your share of Medicare and Social Security on your employee salary. The corporation will withhold employment and federal income taxes from your pay and cover federal and state unemployment, Medicare, and Social Security taxes on your behalf.
The Medicare and Social Security tax rate is the same for both employee and self-employed business owners, but it isn’t paid for in the same way. Half will be paid by the employer and the other half will be deducted from the employee’s income by the employer. However, if you own a business that is subject to these taxes, this won’t make a practical difference for you since you’re the employer.
How Working With an Attorney Can Help
When you’re starting a new business, there’s so much to think and learn about. Selecting which type of business entity to use is one of the first important decisions (among many) you’ll have to make. But understanding which classification is best can be complicated, as each type has its own unique benefits and drawbacks. If you still don’t understand the full implications of different tax classifications, seeking legal counsel is a good idea.
An experienced business attorney can assist you in understanding the difference between each option, so you can make the best selection for you. Working with an attorney can also help when it comes to handling specific legal issues or questions regarding your new business.
FAQ on S Corporations in Arizona
Below are some commonly asked questions related to S corporations in Arizona:
Q: Who counts as an eligible shareholder for an S corporation?
Eligible shareholders can be permanent U.S. residents or U.S. citizens, single-member LLCs run by a permanent resident or U.S. citizen, or grantor trusts. In addition, bankruptcy estates and certain exempt organizations or voting trusts can qualify, among others. However, nonresident aliens, partnerships, C corporations, foreign trusts, and multiple-member LLCs are ineligible as shareholders for an S corporation.
Q: Is it possible to incorporate a business that already exists?
Yes, you can, but you should be careful if you do. If you don’t follow specific rules, you might end up paying income taxes due to the incorporation. Speaking with a business attorney is advisable during this process, to ensure that you follow the law and avoid complications.
Q: What is a pass-through tax deduction?
As of 2018, owners of S corporations, LLCs, partnerships, and sole proprietorships may deduct up to 20 percent of the net business earnings off their income taxes whether they itemize or not.
What to Do if You Need Help With Your Arizona Small Business
Once you’ve chosen which entity type is most suitable for your business, speaking with a business attorney will be helpful before you create it. They can ensure you’ve filled out the necessary paperwork correctly and answer any questions that come up for you along the way.
Call JacksonWhite’s Small Business Law Team at (480) 464-1111 to discuss your case today.