Mr. and Mrs. TP are in a very unique situation. They have four children ages 20, 22, 25, and 27, all of whom have no money management skills whatsoever. In order to keep their children with money in their pockets, the couple decides they want to transfer their investment portfolio of stock that they own to a new corporation in which the couple will own 20 shares of the voting stock and the four children will each own 100 shares of nonvoting stock apiece. The couple still plans to serve as the directors of the corporation as well as continue to manage the investment portfolio while the children receive the majority of the dividends annually. The couple can choose to run the corporation as an S Corporation, C Corporation, or a Limited Liability Corporation (LLC). We will explore the different tax consequences and burdens of operating as each type of corporation and determine which is most suitable for Mr. and Mrs. TP and family.
S Corporation
First, in an S corporation, the corporation in general will pay no tax, whereas the shareholders must include in gross income their proportionate share of corporate income whether or not the corporate earnings are distributed to them. The S corporation's income will be computed under the same rules presently applicable to partnerships in which deductions generally allowable to individuals are allowed to S corporations. The key characteristic of S corporation status is the "flow-through" of profits and losses, income, capital gains, capital losses, and any other tax consequences to the shareholders of the corporation, in proportion to their ownership interests. The idea is that taxes are not paid at the corporate level, but only at the shareholder level. This "flow-through" characteris ...