C Corporation Defintion

What is a C Corporation?

A C corporation (C-corp) is a legal entity that separates the owners’ or shareholders’ personal assets from those of the business. A C corporation limits the personal liability of owners and shareholders. It can buy and sell assets, incur liabilities, pay taxes, sue or be sued, is regulated by the federal government, and can be owned privately by a single owner or publicly by many shareholders[1].

REtipster does not provide legal advice. The information in this article can be impacted by many unique variables. Always consult with a qualified legal professional before taking action.

C Corporation Basics

The C corporation is the standard corporate structure; all corporations begin as C corps, although some later elect S corp tax status.

A C corp is required to file articles of incorporation with the appropriate state agency, to issue stock, appoint officers, elect a board, adopt bylaws, hold shareholder meetings, hold board of directors meetings, keep minutes, and file an annual report.

A C corp is a separate taxable entity. The corporation pays its owners and officers a salary, pays half of its employees’ payroll taxes, and is subject to federal and state corporate income tax on net income. Corporate income passed to shareholders in the form of dividends or distributions is also taxed at the individual level.

This tax treatment—double taxation—is one of the most significant differences between a C corp and an S corp.

A C corp can have an unlimited number of shareholders and ownership is not limited to U.S. citizens or individuals. Shareholders can include other business entities including corporations, LLCs, trusts, and nonprofits. In addition, C corps can issue multiple classes of stock including preferred stock that pays dividends and distributions.

C Corp vs. S Corp: Understanding the Differences

The C corporation is the most common corporate structure. As mentioned previously, an S corporation is originally formed as a C corp and then elects S corp tax status. Both corporate structures are required to observe corporate formalities and both provide limited liability protection for owners against the debts and financial obligations of the business.

The following chart describes the main differences between C corps and S corps in terms of formation, ownership, and taxation.

C Corp S Corp
Formation
  • File articles of incorporation with Secretary of State; C corp is the default status
  • File articles of incorporation plus IRS Form 2553 to elect S corp status[2].
  • May need to file additional forms to keep S corp status.
Ownership
  • No restrictions on ownership; any individual or business entity can own stock.
  • Multiple classes of stock allowed.
  • An unlimited number of shareholders allowed.
  • Shares can be sold or transferred easily.
  • Up to 100 shareholders.
  • Shareholders must be U.S. citizens.
  • Cannot be owned by other corporations, trusts, or financial entities.
  • Single class of stock.
  • Restricted ability to sell or transfer shares.
  • Some types of businesses (banks, insurance companies) cannot elect S corp status.
Taxation
  • Net income tax subject to corporate income tax.
  • Shareholder distributions and dividends taxed at the individual level (double taxation).
  • Business losses cannot be used to offset other income on the personal return.
  • Some employee benefits are either tax-free of tax-deductible.
  • Must file IRS Form 1120S each year, but pays no corporate taxes; reports shareholders income, expenses, gains, and losses on IRS Form K-1
  • Business income and loss reported on individual tax returns;
  • Business losses can be used to offset personal income.
  • Employee benefits are not tax-deductible.
  • Must report taxable employee income.
  • Owners can deduct up to 20% of qualified business income on personal return under Tax Cuts and Jobs Act (TCJA).

Pros and Cons of a C Corp for Real Estate

There is no perfect corporate structure that fits the needs of every real estate business. The company’s ownership, goals, and business activities determine what the best option is for a corporate entity. However, there are pros and cons to keep in mind before deciding.

Advantages of C Corp for Real Estate

  • The corporate income tax rate is currently capped at 21% compared to a current maximum individual tax rate of 37%[3]. A single person earning around $82,000 or more will pay a higher tax rate (24% and above) than the corporate tax rate.
  • A C corp offers maximum ownership flexibility; shareholders can be foreign citizens, other corporations and business entities, venture capital firms, trusts, and financial institutions. C corps can have an unlimited number of shareholders.
  • Because a C corp can issue multiple classes of stock, they can issue stock options and other equity awards to employees and even consultants and advisors.
  • Only a C corp can issue “qualified small business stock” under Section 1202 of the Internal Revenue Code. This stock is tax-favored in that shareholders who hold the stock for at least five years can exclude 100% of the gain upon the sale of the stock up to a maximum of $10 million or 10 times the basis, whichever is greater.
  • A C corp is a good vehicle for new businesses that plan to reinvest profits to grow and expand operations.

Disadvantages of a C Corp for Real Estate

  • Double taxation[4] may result in owners paying higher overall income taxes under a C corp than other structures such as an S corp or an LLC. Business profits are taxed at the corporate tax rate and dividends are taxed at the individual level. This makes a C corp less tax efficient if the goal is to pass on profits to owners.
  • Business losses in a C corp cannot be passed through to the owner’s personal returns to offset other income.
  • The costs associated with incorporating a business are higher than for other structures such as sole proprietorships, partnerships, and LLCs. There are ongoing costs associated with reporting and compliance.
  • Transferring property in or out of a C corp is a taxable event, which can be especially problematic for owners who contribute real property to the corporation in exchange for stock. The contributor pays taxes on any gains recognized in the exchange.
  • Refinancing real property held by a C corp to cash out equity triggers a tax liability. In a sole proprietorship, partnership, or LLC, owners don’t pay taxes on money realized in a real estate refinance. When a C corp refinances a property and distributes the cash to shareholders in the form of dividends, the dividends are taxed. The same applies to real estate sold by the corporation; the sale is a taxable event and shareholders pay tax on the proceeds passed to them in the form of dividends.

Ultimately, a C corp can be an effective structure for a real estate business, but investors must be certain they understand the tax consequences and administrative requirements associated with incorporation.

Reviewed by Mark H. Zietlow, Innovative Law Group

Sources

  1. Ruth, G. E. (2004). Glossary. In Commercial Lending (5th ed., p. 328). Washington, D.C.: American Bankers Association.
  2. Internal Revenue Service. (2020). About Form 2553, Election by a Small Business Corporation. Retrieved from https://www.irs.gov/forms-pubs/about-form-2553.
  3. Tax Policy Center Briefing Book. (n.d.) How did the Tax Cuts and Jobs Act change personal taxes? Tax Policy Center. Retrieved from https://www.taxpolicycenter.org/briefing-book/how-did-tax-cuts-and-jobs-act-change-personal-taxes
  4. Payet, L. (n.d.) What Are the Benefits and Disadvantages of a C Corp.? Legal Zoom. Retrieved from https://info.legalzoom.com/article/what-are-benefits-and-disadvantages-c-corp

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