What Are the Advantages and Disadvantages of a C Corporation?
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What Is a C Corporation?
Corporations are defined mostly by their tax structure and liability protections. When people talk about corporations, they are most often referring to general corporations, or “C corporations.” The IRS starts out classifying every corporation as a C corporation, which means the corporation pays taxes on its income. C corporations are usually double taxed, once as a corporation and again through the shareholders’ personal income taxes.
C Corporation vs S Corporation
C corporations are only referred to as C corporations to more easily distinguish them from S corporations. Although all corporations are initially C corporations, if the corporation meets certain tax code requirement, the shareholders can file to be classified as an S corporation by the IRS. By doing so, the corporation will no longer pay taxes, rather the income passes to the shareholders who then report the business’ income on their personal tax return and only pay taxes on the dividends once.
C Corporation vs LLC
There are advantages and drawbacks to limited liability companies (LLCs). Similar to an S corporation, LLCs pay taxes either as a sole proprietorship (for single member LLCs), or as a partnership. The net income from each year is taxed on the LLCs members’ individual income tax return, and is therefore only taxed one time. LLCs can be managed more informally, as the government oversight on them is not as speculative as that of a C corporation.
C Corporation Advantages
However, there are many business advantages to a C corporation that make them worth the double taxation, including liability factors, management processes, and the opportunities for business growth through the sales of company shares.
Liability processes are one of the major factors that appeal to C corporation classification. C corporations are considered separate entities from their owners, which give a corporation its own rights, capabilities, responsibilities, and liabilities. This means any debts or obligations made under the corporate name are the responsibility of the corporation and not of shareholders, which protects owners and their assets from any consequences the corporation may be face, and limits their exposure to the amount they have invested in the company.
Corporations are managed by a board of directors, not by shareholders. The board of directors of a corporation appoint officers who are in charge of the day-to-day operations of the company. While shareholders can propose to elect or remove directors under certain circumstances, they are mostly responsible for putting people they trust in charge of company operations. However, they do have a say in major structure changes, such as company mergers or dissolution, as well as the right to inspect certain books and records. Also, because corporate law is well established, management is more capable of predicting the legal consequences of their business decisions, which helps them craft agreements to protect themselves.
In a C corporation, there are no restrictions on who can own stock unless the corporation’s governing documents specifically say so. A shareholder has the right to freely sell their shares and the buyer will then become a fellow shareholder with shareholder rights. Because it is more convenient to own shares in a company than to be a member of an LLC, it is easier for a C corporation to attract investors. For companies planning an IPO, C corporation status makes the most sense because there are no limitations on the number of shareholders they can have.
Disadvantages of a C Corporation
One of the main disadvantages of a C corporation is the double taxation that occurs as part of being a separate tax-paying entity. After offsetting their income with losses, deductions and tax credits, C corporations must pay corporate income tax before paying shareholder dividends. While there are ways to reduce and even eliminate double taxation, shareholders must pay personal income taxes on the dividends they receive from the corporation.
The other major disadvantage to a C corporation is the emphasis on management procedures due to keen government oversight. Corporations are managed by a board of directors, who are required to hold annual board meetings where they record meeting minutes. These detail the full names of the meeting attendees, agenda items, main points of the meeting, actions or tasks, due dates, and decisions made by the participants to leave a papertrail for accountability.
Forming a C Corporation
If a C corporation sounds like an endeavor worth pursuing, it’s a good idea to hire a lawyer to help you with the articles of incorporation. C corporations are usually the most complex and expensive type of business structure to form based on the paperwork and initial filing fees. Once those first steps are complete, you will need to appoint a board of directors, create organizational resolutions for the corporation, and issue stock certificates to your original shareholders. You must also register a trade name and obtain local permits for your business. Although it’s a large initial investment, there are many benefits to a C corporation classification, and if that is what your business needs to thrive, it’s a classification worth pursuing.
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This post was updated November 29, 2018. It was originally published December 1, 2018.