When planning your business, you might hear about the tax benefits of an S corporation (S corp). An S corporation isn’t a business structure but rather a method of taxation approved by the Internal Revenue Service (IRS). If you’re curious about how to set up your company as a Pennsylvania S corp, read on.
For a limited liability company (LLC), filing as an S corporation could provide savings on self-employment taxes for the owners. For a C corporation (the default form of corporation), an S corporation can be a way to avoid double taxation. For more information about S corporations in general, see our “What Is an S Corporation?” page.
As we said, an S corporation isn’t a separate legal business entity or business structure. Instead, it’s a tax classification that either an LLC or a corporation can apply for with the IRS if it meets the necessary criteria. We’ll outline those requirements and the steps you would need to take to file as an S corp if you decide that it’s right for your business.
If you want to start an LLC with S corp tax status, our S corp service can help you do just that. We also have many services to help you run and grow your business and keep it in compliance with the commonwealth.
Before you begin, know that S corporations have some filing requirements and limitations to be aware of. Specifically, to qualify for S corporation election, an entity must:
If your business entity meets the above requirements, read on to learn how to start an S corp in Pennsylvania.
To create a Pennsylvania S corporation, you’ll first need to create either an LLC or a C corporation if you haven’t already done so. Then, you’ll file an election form with the IRS.
If you’re ready to learn about filing as an S corporation in Pennsylvania now, we’ll walk you through the steps. First, we’ll show you how to form an LLC in Pennsylvania. If you’d rather form a corporation, follow the instructions on our Pennsylvania corporation page. Afterward, in Step 6, we’ll show you how to file for S corporation tax treatment as either an LLC or corporation.
The first step in starting a Pennsylvania LLC is to name your business. Your business name provides the public with a first impression of your company, so it’s important to choose one that conveys what you’re selling and your desired brand image.
You also need to adhere to Pennsylvania LLC and business naming rules. For example, Pennsylvania requires all LLC names to include the designator “limited liability company,” “company,” “limited,” or an abbreviation thereof.
LLCs are also prohibited from using names that contain any variations of the word “corporation” or make it seem as if the business is a government agency. Finally, a Pennsylvania LLC can’t use a name that’s too similar to a name already being used by another business in the commonwealth.
While not a law per se, it’s wise to check to make sure that your desired name isn’t already trademarked by someone else, either on the federal or state level. If you want to check its availability at the national level, conduct a search on the United States Patent and Trademark Office (USPTO) website. For Pennsylvania trademarks, check with the Pennsylvania Department of State.
Before you can register a business name for your Pennsylvania LLC, you need to make sure it isn’t already taken. Our Pennsylvania business search page can help you with that part.
Once you’ve decided on your business name, registering it is as simple as filing your business formation documents (which we’ll cover in a later step).
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The next step is to designate a Pennsylvania registered office. In most states, this is known as a registered agent. Your registered office/agent is an individual or business entity that receives legal notices (such as notifications of a lawsuit against the company) on behalf of your business. In Pennsylvania, you only need to name the registered office instead of the registered agent.
Every Pennsylvania LLC is required to appoint a registered agent/office. Your Pennsylvania registered agent/office must:
A registered agent’s responsibilities include:
Legally, you are allowed to serve as your own registered agent and registered office. However, this might not be the best idea.
For starters, you’re busy running your business. Having to be available during all regular hours to receive legal notices would be quite inconvenient for a business owner.
Secondly, you could be embarrassed in front of clients, investors, or colleagues when being served with subpoenas or notifications of a lawsuit in front of them. For these reasons and others, many LLC owners opt to hire professional services instead.
Using a registered agent service can help you avoid these issues. Our registered agent service can provide you with a reliable agent/office for your business, whether it’s an LLC or a corporation.
File a Certificate of Organization with the Pennsylvania Department of State. This document (also referred to as Articles of Organization in other states) registers your business with the Commonwealth of Pennsylvania.
Filing such important documentation for your business can be intimidating. Our business formation plans exist to handle the filing for you and make sure everything is done accurately and efficiently. However, we’ll also walk you through the process below.
You’ll file your Certificate of Organization via the Pennsylvania Department of State. After filling in all of the required info, you can submit the form via mail or online along with your $125 filing fee. You’ll also need to include your New Entity Docketing Statement, which we will cover in a moment.
When filling out your Certificate of Organization, you’ll need to include:
Along with your Pennsylvania Certificate of Organization, you’re also required to submit a New Entity Docking Statement (Form DSCB: 15-134A). This form should include:
Draft an operating agreement for your Pennsylvania LLC. An operating agreement (OA) allows you to establish the rules for how your LLC will operate and other important factors. Pennsylvania doesn’t legally require you to put an OA together, but having one is extremely important for making your LLC run smoothly.
If drafting more business documents while creating an LLC in Pennsylvania sounds like a dull chore, then you might reconsider after finding out the benefits of having an OA.
A few common ones include:
Here are some common elements you may want to include in your OA:
If you want to create an operating agreement but aren’t sure how to get started, we offer a customizable template to help.
Get an Employer Identification Number (EIN) from the IRS. Many LLCs, including those with employees or more than one owner, are legally required to obtain an EIN, also known as a Federal Tax Identification Number or Federal Employer ID Number. Most banks require an LLC to have an EIN to open a business bank account. This nine-digit number is used for tax purposes and other financial paperwork.
We can obtain this number for you with our EIN service.
Depending on your specific business activities, your LLC may need to report things like sales and use tax or employer withholding. In order to register your LLC for state tax and employer accounts, you’ll need to complete the Pennsylvania Enterprise Registration Form (PA-100).
This form enables Pennsylvania LLCs to establish multiple accounts, including:
Complete and submit the form to apply for S corporation tax status. Once your LLC or C corporation formation is approved by the commonwealth, you need to file Form 2553, Election by a Small Business Corporation, with the IRS to get S corporation status.
The Internal Revenue Service requires that you complete and file your Form 2553:
There is a caveat for limited liability companies wanting to file as an S corporation: If your LLC is past the 75-day election deadline, you’ll also need to file Form 8832, Entity Classification Election, to elect to be taxed as a corporation. Then you file both Form 8832 and Form 2553 together via USPS-certified mail.
Every one of the members or shareholders must sign the consent statement portion of the form. For more information on how to file Form 2553, visit the IRS website.
While S corporation classification does come with a number of benefits for some businesses, making this election might not be right for every company. Sit down with an experienced tax professional and carefully weigh the various pros and cons before deciding how you want to move forward.
The advantages of filing as an S corporation for an LLC aren’t the same as they are for C corporations. First, let’s look at the advantages for LLCs.
A traditional LLC already has pass-through taxation by default, so the benefits of federal S corporation election for an LLC have to do with the taxes for self-employment. This does take some explanation, but it could save certain LLCs a lot in those taxes.
The members of a standard LLC are considered self-employed. They’re compensated by receiving their share of profits from the LLC, but they can’t be employed by the LLC, meaning that they’re self-employed.
Being self-employed means you pay self-employment taxes (Social Security and Medicare, which add up to about 15.3%) on all the profits you receive from the LLC. This is more than the taxes you’d pay when working for someone else because your employer would pay part of them.
But when the members make an S corporation election, they can be compensated in two ways, by receiving their share of the profits and by being paid as an employee. Once they do that, they only pay Social Security and Medicare taxes on their salary and not the profits they receive. Depending on factors such as how profitable your company is, the savings could add up to a lot. (Of course, the members will still pay income and all other applicable taxes on their share of the profits.) Money paid out as salary is a tax-deductible expense for the business.
One important stipulation to this is that the IRS expects you to pay yourself a “reasonable salary” as an employee of the LLC. If they didn’t, you could pay yourself an annual salary of $8 and avoid contributing anything to Social Security or Medicare.
So, how is “reasonable compensation” defined by the IRS? The instructions on Form 1120-S read, “Distributions and other payments by an S corporation to a corporate officer must be treated as wages to the extent the amounts are reasonable compensation for services rendered to the corporation.” While the terms aren’t clearly defined, the IRS seems to consider “reasonable” to be something similar to what others in your field are earning.
If the Internal Revenue Service determines that whatever salary you’re paying yourself isn’t reasonable, it has the authority to reclassify your non-wage distributions (which aren’t subject to employment taxes) to wages (which are subject to employment taxes). Various court cases have supported the IRS’s right to do this.
Having an LLC with S corporation status can also have some drawbacks over a regular LLC:
S corporations have more qualifications than a standard LLC or corporation (as we listed above). Pennsylvania S corp filing requirements say that you can have no more than 100 members, and none of them can be partnerships, corporations, or non-resident aliens. A standard LLC doesn’t have these limitations.
Because of the above restrictions and the requirements about paying yourself a “reasonable salary,” the IRS usually monitors LLCs filing as S corps more closely. That could mean a greater chance of being audited, even if you follow the law to the letter. In fact, small business owners in an S corporation may want to observe some of the same formalities that corporations do (such as extensive record keeping), even if they’re not legally required to. It’s not necessary to appoint corporate officers or write corporate bylaws, but keeping something similar to a corporate records book could be useful if the business is audited.
Having an LLC with an S corporation election generally means more paperwork. If you don’t already have to do payroll for your business, being an owner-employee means that you’ll have to do so. Your taxes will be more complex, too.
With these added complications, it’s possible that you’ll have higher administrative costs because you may need to pay for an accountant, bookkeeper, and/or a payroll service or software.
If you have a C corp (the default form of corporation), filing as an S corporation has these advantages:
One major disadvantage for traditional corporations is “double taxation.” When the corporation makes money, the IRS taxes those profits on the corporate level. But when those profits are distributed to the individual shareholders as dividends, they’re taxed a second time on the shareholders’ personal tax returns.
But when a corporation qualifies to be an S corporation, those profits are only taxed at the individual shareholder level. The business itself isn’t taxed on them. This is called “pass-through taxation,” and it’s how business entities like sole proprietorships and general partnerships are taxed. LLCs are also taxed this way unless they choose to be taxed as a corporation.
However, since the 2017 Tax Cuts and Jobs Act, the corporate tax rate has been lowered to a flat 21%. Thus, the disadvantages of double taxation aren’t as severe now as they were.
Just as business profits pass through to the owners of an S corporation, so do the losses. Unlike the shareholders of a C corp, S corporation shareholders can write off the company’s losses on their personal income statements.
This can help offset their income from other sources and can be helpful if the corporation loses money in its early years. However, make sure you’re aware of and understand the IRS’s shareholder loss limitations.
Under the 2017 Tax Cuts and Jobs Act, some S corporation owners may be able to deduct up to 20% of their qualified business income. This deduction isn’t available to C corp shareholders.
Qualified business income (QBI) is basically your share of the company’s profits, or, as the IRS puts it, “QBI is the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business, including income from partnerships, S corporations, sole proprietorships, and certain trusts.” The IRS website has a detailed explanation as to what is and is not included in QBI. There’s an income threshold that, if exceeded, may reduce your QBI (see the IRS website for details).
S corporation election also has the following minuses:
As mentioned, an S corporation can’t have more than 100 corporation shareholders, while a C corporation doesn’t have that restriction. This limitation could be an issue later if the corporation expands and goes public.
All S corp shareholders must be U.S. citizens, or certain trusts or estates. That could become a problem if you want to expand internationally. You also can’t have partnerships or corporations as shareholders. Standard corporations don’t have these limitations.
A common way corporations attract investors is to offer preferred stock. That’s okay for C corporations, but the IRS doesn’t allow it for S corporations.
As with LLCs, the extra restrictions S corps have often cause the IRS to watch them more closely to see if they’re in compliance. In other words, your corporation has a higher chance of being audited.
Again, it’s important to have tax guidance about your specific situation from a qualified tax professional. An accountant with S corporation experience should be able to make sure you stay in compliance with the IRS. They may also be able to help you find additional ways to lower your tax bill.
In an S corporation, the business itself doesn’t usually pay federal income taxes, just the individual owners. But what about Pennsylvania income taxes?
Pennsylvania treats businesses that file as an S corp for federal income tax purposes the same way when it comes to income tax from the commonwealth. That is, the same pass-through taxation that applies to federal income taxes applies to commonwealth income taxes. For S corp owners, the Pennsylvania S corp tax rate is basically the Pennsylvania personal income tax rate. An S corporation is subject to Pennsylvania corporate net income tax only to the extent of its built-in gains.
Some states require an S corporation to make a separate S corporation election at the state level, but Pennsylvania no longer requires that. If a company has a valid federal subchapter S corporation election, it will automatically become a Pennsylvania S corporation.
Pennsylvania also gives S corps the ability to opt-out of being taxed as a Pennsylvania S corp at the commonwealth level by filing Form REV-976. This may help some S corp owners with the limit imposed by the Tax Cuts and Jobs Act of 2017 on the amount of state and local taxes individuals can deduct for federal income tax purposes. To use this election, all of the S corp owners must sign the form. Once made, the election can’t be revoked for five years.
Forming an S corporation or any business can be complicated, but we’re here to make it as simple for you as possible.
When you’re ready to make your move, we can help you form a Pennsylvania LLC with an S corporation designation and provide you with valuable support from our team of business experts.
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For a corporation, one of the biggest advantages is being able to avoid double taxation. Usually, a C corporation’s profits are taxed at both the business and individual shareholder level, while an S corporation’s profits are taxed only at the individual shareholder level.
For an LLC, when the members elect S corp status, they can be compensated in two ways, by receiving their share of the company’s profits and by being paid as an employee of the LLC. Once they do that, they only pay employment taxes (Social Security and Medicare) on their salary and not the profits they receive. For some LLCs, this can add up to major tax savings.
The naming process for your Pennsylvania corporation or LLC isn’t related to your status as an S corp. Whether you file to be taxed as an S corp or not, your business remains an LLC or a corporation and follows the same Pennsylvania business naming rules.
Before formally registering a business name, search the Pennsylvania business entity records to make sure that you don’t select one that’s already in use by another company. From there, you can choose a name that you feel best reflects your business’s offerings as long as you comply with applicable Pennsylvania naming regulations.
Pennsylvania S corporation election may not be advantageous for all businesses. If you’re not sure whether to identify your LLC as an S corp or keep the default status, be sure to consult with an experienced tax professional.
Calculating taxes isn’t always easy, but you can check out our S corp tax guide to learn more about navigating taxes for your Pennsylvania S corporation. A certified tax professional can give you more definitive information for your circumstances.
At the present time, our S corp service is only for applying for S corporation status when you form your LLC with us. We do offer plenty of other services to support your business, though.
The IRS’s website says that you’ll be notified of whether or not your S corporation election is accepted within 60 days of filing Form 2553.
If you’re a new limited liability company, you must apply for S corp status within 75 days of the formation of your LLC or no more than 75 days after the beginning of the tax year in which the election will take effect. For an existing business, you would file at any time during the tax year preceding the tax year it is to take effect.
An LLC is a legal business entity type, but an S corporation is only a special tax status. You can read more about the differences on our LLC vs. S Corp page.
Disclaimer: The content on this page is for information purposes only and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.
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