How to start an S corporation: A step-by-step guide (2024)

Although many view S corporations (S corp) and C corporations (C corp) as very different from each other, that isn’t fully accurate. In the eyes of most states, they’re basically the same thing. The difference is in how a corporation elects to be taxed at the federal level.

Confusing? Don’t worry. If you’re interested in starting an S corp, we’ll break it all down and make sure you understand the ins and outs of getting an S corp up and running.

So, what is the actual difference between an S corporation and a C corporation?

The process for starting an S corp and a C corp is exactly the same. You file with your respective state to start a corporation. By default, corporations are classified and taxed as C corporations by the IRS. To be taxed as an S corp, you need to file form 2553 and the following things have to be true about your corporation, according to the IRS:

• Be a domestic corporation
• Have only allowable shareholders
• Have no more than 100 shareholders
• Have only one class of stock
• Not be an ineligible corporation (certain financial institutions, insurance companies and domestic international sales corporations)

The main difference between an S corp and C corp is that an S corp’s corporate income, losses, deductions, etc., are passed through to shareholders (known as pass-through taxation) instead of being reported on a corporate tax return. Also, pass-through income is taxed at the individual income tax rate of the shareholder (depending on overall earnings). Certain passive income and built-in gains are still taxed at the corporate/entity level.

Note: An LLC can elect to be taxed as an S corp. The first step is filing form 8832 to elect to be taxed as a corporation. Then an LLC can file form 2553. The requirements above for filing form 2553 (other than being a corporation) are still applicable. Explore more of the differences between an LLC and a corporation in our guide.

S corporation pros

• Liability protection: An S corporation is a separate legal entity from its shareholders. In other words, in a worst-case scenario where your business is involved in a lawsuit, only entity assets can be seized and not shareholder assets (unless a shareholder signs a personal guarantee for the business).
• Choose your accounting method: Unlike C corporations, which must almost always use an accrual accounting method, S corporations can often choose between cash and accrual methods of accounting, depending on which method your accountant thinks makes the most sense for your business.
• Taxation benefits and flexibility: One of the biggest advantages to an S corp is the ability to pass through dividend income to personal shareholder tax returns without corporate taxation.
• Income distribution options: S corporation shareholders can receive two types of income: dividend income (not taxed at the corporate level) and salary income (subject to corporate payroll tax like Medicare and Social Security). A good accountant can leverage this flexibility to the business’s advantage at tax time.
• Business is less tied to owners vs. an LLC: S corporation interests are straightforward to transfer without complicated tax ramifications. Shareholders can buy and sell personal stock as desired, versus an LLC, which generally requires consent from other members to change ownership percentages.

S corporation cons

• Owners have less control: S corporations are governed by a board of directors, meaning owners/founders have less control, especially over the business’s day-to-day operations, when compared to a sole proprietorship or LLC.
• Increased red tape and regulations: To be an S corp, you must meet specific guidelines, which are more rigorous than a regular C corporation and significantly more involved than those for a sole proprietorship, partnership or LLC.
• Stock restrictions: Unlike C corps, which can theoretically keep selling stock to raise capital, S corps are limited to 100 shareholders, which makes it trickier to raise capital by selling shares. And S corporations can only issue one kind of stock, meaning you can’t have different investors with different dividend rights. Additionally, all shareholders have to be US citizens.
• Potential for increased IRS scrutiny: S corp shareholders can receive income from the business via a salary (taxed corporately) or a dividend distribution (taxed individually). The IRS watches closely to make sure S corps aren’t trying to skirt tax laws by having absurdly low owner salaries with high dividend payouts.

8 steps to start an S corporation

Now that we’ve got the background information out of the way, let’s jump into starting an S corp in eight steps.

1. Register your business name

In most states, your business name is registered automatically when you submit your articles of incorporation. Alabama is the exception, requiring you to reserve your business name before filing.

However, if you’re not quite ready to file but already know what you want to name your business, you can file for a business name reservation in your state. This essentially puts your business name on hold so that no other business can use it. Business name reservation lengths vary by state, but most last around 120 days. Thankfully, business name reservations are pretty cheap, averaging around $28 (varies by state).

Related: To learn more, read our comprehensive guide to business name registration.

2. Ensure you meet S corp eligibility requirements

To file form 2553 and become an official S corp, there are specific requirements you have to satisfy. That’s why ensuring you have all your ducks in a row and understanding how to start an S corporation before filing your articles of incorporation is important. If you don’t, you’ll spend extra time, money and effort backpedaling to ensure you’re compliant.

Once you’ve filed to become a corporation, you can file form 2553 to become an S corp if you’re a domestic corporation, have only allowable shareholders (no partnerships, corps, or non-resident aliens), don’t have more than 100 shareholders and aren’t an ineligible corporation.

3. Submit articles of incorporation

When most people refer to “starting a corporation” they’re talking about the official process of submitting articles of incorporation to your state. You fill in your business information on the correct form and submit your filing to the state with the specified filing fee. Most states have a way to file online, although many still offer a paper form you can fill out and return in person.

Filing fees are set at the state level, so there’s a lot of variance. In most cases, you’ll be in the right ballpark if you allocate between $100 and $300 for filing fees. The quickest way to find the right place to do your online filing is to Google “YOUR STATE corporation filing :.gov.”

Something to keep in mind: If you want to skip the hassle of filing, you can hire a business formation service to do it for you. You just fill out your info online and the service handles the rest, including all interaction with the state. Check out our best LLC services guide for more information (all the included services also offer corporation filings).

4. Obtain an EIN, permits and licenses

Next, it’s time to obtain your federal tax ID number (also known as an employer ID number orEIN) and your business permits/licenses. Corporations are legally required to have an EIN. It’s also a legal requirement if you have employees or want to open a business bank account. Getting an EIN is free and only takes 10-15 minutes through the IRS’s portal.

Make sure you’re on the official IRS site with a .gov ending when you get your EIN. If you just search for EIN online, other sites will pop up that charge you to get your EIN (they’re not stealing your info, just charging you unnecessarily).

Figuring out which business licenses and permits you need is next. This will vary widely depending on your corporation’s business activity and industry. Some industries are regulated at the federal level, like agriculture and broadcasting. In others, you may not need much more than a sales permit. Our best advice is to contact your county courthouse and ask to talk to the business licensing division. It generally will have a lot of good info for you.

Another option is hiring a service to do the research for you. Business formation services like ZenBusiness and LegalZoom will research what business licenses and permits you need and provide you with a report and the correct forms to file. On average, the cost for this research is around $100.

5. Draft corporate bylaws

Your bylaws are like the how-to manual for your corporation and drafting them is a critical part of starting an S corp. They detail who does what and how it’s done. Bylaws identify officer positions, walk through how bylaw amendments can be made, detail board member election protocols and term limits, explain meeting/vote procedures, describe stock certificates, define what qualifies as a majority/quorum and more.

In general, it’s considered best practice to draft bylaws during the launch stage with your company attorneys. After directors are appointed at the first board meeting, your bylaws can be voted on and adopted.

We highly recommend involving a business attorney in the process, either in the drafting stage or at least during a final review. Services like Rocket Lawyer offer a bylaws template (which is free and editable) to use as a starting point.

6. Have your first meeting and appoint a board of directors

Once all of your initial business formation documents have been completed and filed, one of your first orders of business should be holding an initial board meeting to officially appoint a board of directors.

Shareholders at the meeting nominate potential board members and then take a vote to establish the nominees. Other necessary tasks happen at the first meeting as well, such as:

• Corporate officer appointments
• Establishment of the fiscal or accounting year
• Bylaw adoption
• Stock share authorization and distribution
• Corporate seal and official stock certificate form adoption

Most states require that a corporation hold at least one annual shareholder meeting. Although the first meeting is necessary for other reasons, it satisfies the annual meeting requirement. The first meeting is also when shareholders discuss and vote on S corp status.

7. Issue stock and schedule annual meetings

Another critical task at the first board meeting is issuing stock. The key thing to understand is that if you want to be an S corp, you can only issue one kind of stock.

This is where things can get a bit confusing, so we turned to Kyle Montrose, a partner and member of the corporate services department at global law firm Dentons, for some clarification. He explains that the one-class stock rule is all about the money. It doesn’t apply to voting, and S corps can still issue voting and non-voting shares. But all issued shares must have “equal financial rights to dividends, distributions and upon liquidation” In other words, there can’t be shareholders who get prioritized access to money over other shareholders, and all shares must be worth the same amount of money.

You must also have annual meetings moving forward. In most cases, bylaws include some guidance on when to hold annual meetings, but board members generally have the ultimate say. Sometimes the exact date is provided (but can be altered through a vote); other times a month is specified. In some cases, a hybrid of the two is used (such as “the first Monday in April”). Regardless of the specifics, it’s good to nail down the details of annual meetings moving forward at your first board meeting.

8. File form 2553 with the IRS

The last step in S corp formation is to file form 2553 with the IRS requesting that your corporation be viewed as an S corp for tax purposes. Once ratified, the IRS will stop viewing your corporation as a C corp (the default designation) and classify it instead as an S corp moving forward.

You have to file within two months and 15 days of the beginning of your corporation’s tax year to get S corp status for that year. So, it’s important not to wait too long —especially since this form can’t be filed online. It has to be mailed or faxed in.

Most S corps use a fiscal calendar year, but your first year in business will almost always be a short year (because it’s rare to start your business on January 1 of a new year). For your first year, the two-month-and 15-day countdown begins on the earliest date you officially:

• Had shareholders
• Had assets
• Began doing business

The form is pretty basic. You put in general business info like your name, EIN, state in which your business is incorporated, the corporation’s tax year, the name and number of your business’s legal representative, etc. Lastly, you have to list the names of and get signatures from each shareholder.

Keeping your S corporation compliant

Starting an S corp is the first step. But once you’ve established it, you have to keep it compliant by making sure you:

• Hold annual meetings and keep a catalog of meeting minutes
• Not breach S corp requirements (issue stock to more than 100 shareholders, issue more than one kind of stock, etc.)
• File and pay shareholder taxes on time
• Keep all applicable business licenses, permits and business filings up-to-date and apply for new ones as needed