A C corporation (C corp) is a type of business structure that’s owned by shareholders.
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A common alternative to the S corp, small business owners usually don’t pick C corps as their first choice. This is because C corps are generally more complicated, subject to double taxation, and typically have higher fees.
However, for many companies, the C corp can be an appealing option because it allows people to take stock in exchange for an ownership stake. Startups typically form C corps, along with other companies that need to raise capital, plan to go public, or eventually get sold.
Since C corps offer the most liability protection for their owners, they are also best for higher-risk businesses.
What are the benefits of a C corporation?
This particular business structure has several benefits.
- Can raise money from investors
- Can offer stock publicly and equity to their employees
- Have legal protection between their personal assets and the business
- Have “perpetual existence,” which means the business will continue until it’s dissolved, regardless of whether you’re the owner
- May claim deductions for fringe benefits, such as health insurance, long-term care, and disability insurance premiums—as long as the owner offers the same benefits to their employees
What are the drawbacks of a C corp?
The greatest drawback of a C corp is double taxation, since C corps are the only business entity required to pay corporate taxes on its profits.
C corps also:
- Are harder to form and more expensive to maintain. C corps require more time and resources to form and often need the help of a lawyer or small business accountant. This is because C corps need to stick to state corporate laws, which can be difficult to navigate for new business owners.
- Require more paperwork. C corps are required to hold board meetings and record the minutes of these meetings. They also have more tax filing requirements than LLCs and sole proprietorships.
How do I pay myself from a C corp?
There are two ways to pay yourself from your C corp: as an employee and through dividend payments.
If you’re involved in the day-to-day operations of running your C corp, then you’re considered a W-2 employee. Therefore, you should receive reasonable compensation for your work, which is subject to payroll taxes.
What’s reasonable compensation, you ask? The IRS has a bunch of rules you’ll need to follow, so chat with a tax adviser to ensure your compensation is in line with all federal requirements. Also, remember that your reasonable compensation must be paid before making nonwage distributions, like dividend payments.
The second way to pay yourself is through dividend distributions, which aren’t subject to payroll taxes. How much you receive through dividend payments will depend on your business’s profit, cash flow, and your personal finance needs.
How are C corps and their owners taxed?
C corps are subject to double taxation, which means that both the business and the owner pay taxes.
The company pays corporate income taxes on its taxable profit, which is what’s left after subtracting the business’s costs and expenses from its revenue. The federal corporate tax rate is 21 percent.
Owners, or shareholders, pay income taxes on dividends distributed to them throughout the year. If they don’t receive profit distributions, the owner doesn’t pay taxes and avoids double taxation.
At tax time, C corps complete the following two forms:
- IRS Form 1120: U.S. Corporation Income Tax Return and report their gross income, tax deductions, and taxable profit
- Form 1099-DIV for each shareholder, reporting the amount of profit that was distributed to them
There are two types of dividends: qualified and nonqualified.
Nonqualified dividends are dividend payments that don’t meet the qualified dividends requirements and don’t receive special tax treatment. There are some types of dividend payments that are automatically nonqualified including:
- Capital gains distributions
- Dividends on bank deposits
- Dividends from an Employee Stock Ownership Plan
- Dividends paid from a tax-exempt organization, master limited partnership, or real estate investment trusts
Qualified dividends have a lower tax rate but need to meet several requirements.
First, they must be paid out to shareholders from a US corporation or qualifying foreign corporation.
Second, a shareholder must hold the stock for at least 60 days out of a 121-day “holding period,” which begins 60 days before the “ex-dividend date.” If you’re a shareholder, you’ll need to own the stock by this date to receive a dividend payment.
Luckily, shareholders don’t need to worry about figuring out if a dividend is qualified or nonqualified. Form 1099-DIV will list the amount and type of dividend payment.
Shareholders report the amount using Form 1099-DIV on their personal tax returns. Generally, most corporate dividend payments are qualified dividends and taxed at a rate of 0%, 15%, or 20%, depending on the shareholder’s filing status and taxable income.
What’s the difference between a C corp and a single-member LLC?
The biggest difference between a C corp and a single-member LLC is how they’re taxed. An LLC is a pass-through entity, which means all the business profits are passed on to the owner’s tax return.
If your LLC makes $100,000 in profit, for example, you’ll pay taxes on the $100,000 on your personal return, regardless of whether you use the money personally or not. LLC owners are responsible for paying income tax along with self-employment tax, which starts at 15.3%.
On the other hand, if your C corp makes $100,000 in profit, your business would only pay corporate taxes on the profits at a rate of 21%. You would then pay income tax on the dividend payments, usually at a lower rate, and you wouldn’t have to pay self-employment tax on the dividend payments.
Here’s a tax breakdown between C corps and LLCs:
LLC vs. C corp: Tax the business pays
|Corporate tax (21%)||$0||$21,000|
LLC vs. C corp: Tax the owner pays
|Amount distributed to owner||$50,000||$50,000|
|Income reported on owner’s personal return||$100,000||$50,000|
|Income tax (single filer with standard deduction)||$13,620||$5,625*|
*Based on a qualified dividend taxed at 15% tax rate
In this example, the total taxes paid for a single-member LLC are $27,750, while the total taxes paid for a C corp are $26,625.
There are other important differences between the two business structures.
- Can’t claim the pass-through deduction. C corps aren’t pass-through entities, which means they aren’t eligible for the pass-through deduction. LLCs are eligible for the pass-through deduction.
- Consider the owner an employee. C corps can pay its owners as employees, while LLCs can’t.
- Can issue shares. This attracts investors and enables the business to go public, or IPO. While LLCs can have multiple owners, the percentage of ownership is outlined in the operating agreement.
- Have meeting requirements. C corps are required to hold annual meetings and record meeting minutes, while LLCs are not.
What’s the difference between an S corp and a C corp?
The main difference between an S corp and a C corp also comes down to taxation. Like a single-member LLC, S corps are pass-through entities and are required to pay self-employment tax on their income.
However, S corp owners only have to pay the self-employment tax on the salary portion of their income (and ordinary income tax on the distribution portion). Owners are required to pay themselves a “reasonable compensation” as an employee of the company and must pay FICA payroll taxes. The owner’s salary and employer payroll taxes are considered deductible expenses for the company.
C corp owners can also be paid as an employee of the company and are required to be treated as an employee if they’re involved in the daily operations of the business.
Finally, S corps don’t pay corporate taxes on their profits, while C corps do.
Here’s a deeper look at S corps vs. C corps:
S corp vs. C corp: Tax the business pays
|S corp||C corp|
|Business profit (pre-salary)||$100,000||$100,000|
|Payroll taxes: 7.65% (FICA) + 0.06% (FUTA)||$4,259||$0|
|Corporate tax: 21%||$0||$21,000|
S corp vs. C corp: Tax the owner pays
|S corp||C corp|
|Business profit (pre-salary)||$100,000||$100,000|
|Taxable profit (post-salary)||$50,000||$100,000|
|FICA payroll taxes: 7.65%||$3,825||$0|
|Amount distributed to owner||$0||$50,000|
|Income reported on owner’s personal return||$100,000*||$50,000|
|Income tax (single filer with standard deduction)||$15,246||$5,625**|
* Gross wages plus taxable profits
**Based on a qualified dividend taxed at 15% tax rate
The S corp pays $23,330 total in taxes, while the C corp pays $26,625.
S corps and C corps have a few more differences.
- Can claim the pass-through deduction. S corps are pass-through entities and therefore are eligible for the pass-through deduction, while C corps aren’t.
- Are limited in size. C corps can have unlimited owners, while S corps are limited to 100 owners.
- Have ownership limitations. Foreign citizens and other businesses can own C corps, while an S corp must be owned by US individuals.
- Are limited in stock type. C corps can issue multiple classes of stock, while S corps can only issue one kind of stock.
And that’s (mostly) everything you need to know about C corporations. Now you can decide if a C corp is the right entity type for you as you work toward starting your first business.