To form an S corporation, you must first form a corporation in any state in accordance with the state's corporation laws. This involves choosing a corporate name, drafting articles of incorporation, registering the corporation with the secretary of state of the state of incorporation, preparing corporate bylaws, appointing directors, holding a first board of directors meeting, and issuing stock to the corporation’s shareholders. The procedures for forming a corporation vary from state to state. For details on how to form a corporation in your state, see Nolo's article “50-State Guide to Forming a Corporation.”
Not all corporations under state law will qualify for S corporation status. To be eligilbe to elect S corporation status, your corporation must:
- have only one class of stock
- have no more than 100 shareholders (spouses count as one shareholder), and
- have individuals, estates, or certain trusts and exempt organizations as shareholders—it may not have any nonresident aliens as shareholders.
A corporation becomes an S corporation by filing an S corporation election with the IRS. The election is made on IRS Form 2553, Election by a Small Business Corporation. It must be signed by all the shareholders and timely filed. If a shareholder resides in a community property state, the shareholder's spouse must also sign Form 2553. The nine community property states are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
Time to File S Election
The timing for filing an S election can be tricky. How the deadlines operate depends on whether the corporation is new and in its first tax year when it files the election, or whether it has been operating more than one year and had a prior tax year before filing the election.
New corporations must elect S status no more than two months and 15 days after the beginning of their first tax year. Elections made after this deadline won’t apply until the following year, unless they qualify for special relief.
Example: Acme Corporation is a brand new corporation that began its first tax year on January 7, 2015. For it to timely elect S corporation status for 2015, it must file Form 2553 some time during the period from January 7 through March 21, 2015. Because the corporation had no prior tax year, an election made before January 7 will not be valid. An election made after March 21, 2015 won’t apply until 2016 (unless it qualifies for special relief).
Existing corporations with prior tax years
Corporations don’t have to choose to elect S status right away. They can operate as regular C corporations for as long as they want to before making the election. However, for an S corporation election to be timely for the current tax year, it must be filed either in the previous year, or by the 15th day of the third month of the current tax year.
Example: XYZ Corporation was formed back in 2013 and has been operating as a regular C corporation. Acme Corporation wants to qualify as a S corporation starting in 2016. To do so, it must file Form 2553 any time during 2015, or no later than March 15, 2016. If it files the election after March 15, 2016, it won’t be effective until 2017.
Late S Elections
The IRS will grant a corporation relief from the late filing of Form 2553 if it meets all of the following requirements:
- the corporation failed to qualify as an S corporation solely because Form 2553 was not timely filed
- the corporation and all of its shareholders reported their income consistent with S corporation status for the year the election should have been made and all later years
- less than three years and 75 days have passed since the effective date of the election; (however, if more than three years and 75 days have passed, special relief is available if additional requirements are met--see Rev. Proc. 2013-36.), and
- the corporation either had reasonable cause for the late filing, or inadvertently failed to timely file Form 2553 and acted diligently to correct its mistake.
The corporation must attach a statement along with Form 2533 explaining why it had reasonable cause for the late filing, or that it inadvertently failed to timely file. The words, “Filed pursuant to Rev. Proc. 2013-30” should be added to the top of Form 2533. Both the Form 2553 and the attached statement must be signed by every shareholder.