Ownership in an S corporation
By Lee R Phillips
S corporations were set up to let the little guy have a corporate shield and basically maintain the tax structure of a partnership. That’s a simplified statement, but it gives you an overview. Because the S corporation is taxed under a unique set of tax rules, (Subsection S of the IRS Code) ownership in an S corporation is restricted.
If you already have or are considering an S corporation or an LLC taxed as an S corporation, you need to know the rules. In theory, only warm blooded American citizens can own stock in an S corporation. It started out that only 25 people could be stockholders, but it keeps going up. It is 100 now, so check it out if the question comes up in the future.
That means a corporation cannot own stock in an S corporation. (It’s not a warm blooded American.) Most trusts cannot own stock in an S corporation. A “Subchaper S Qualified Trust,” can own stock in an S corporation. Some living revocable trusts are qualified trusts. You’ll need to check your trust if you have one.
Please note that an IRA can’t own stock in an S corporation. An LLC TAXED AS AN S CORPORATION IS THE SAME AS AN S CORPORATION, at least as far as the IRS rules are concerned. I will clear up the mystery of the corporation and LLC relationship at the upcoming event.
Lots of folks are doing IRA/LLC combinations these days. You might note that the LLC/IRA combo is a “no-no” on the IRS list. That’s called a check book IRA or an LLC IRA. I get lots of questions about that at the events I speak at, so come ready to take notes.
If you are using an LLC that is “owned” by your IRA, in whole or in part, it’s for sure the LLC can’t be set up with an S corporation tax structure, because the IRA can’t own membership interests in an LLC taxed as an S corporation. That’s because of the S corporation tax rules, not the IRA rules.
If you do have stock in an S corporation or membership interests in an LLC taxed as an S corporation and end up with an owner that doesn’t qualify, the IRS will revoke the S status. They could make you go back and recalculate all of your taxes as if you were a C corporation. That could be ugly, especially if you are investing in real estate, so be careful with S corporation or LLC ownership rules.
I don’t care if you use an S corporation, a C corporation, or an LLC taxed as an S or C corporation. I’ll be careful to give you the advantages and disadvantages. It’s just as important, if not more important to know about the disadvantages. There are some serious issues that will let you decide whether to tax your LLC as a sole proprietorship, partnership, S corporation, or C corporation. What’s the tax result of your decisions? What’s the asset protection result of your decisions? I’ll see you at the event.
Lee R. Phillips
United States Supreme Court Counselor