Wondering what type of tax return does an S corp file? You've come to the right place! From filing requirements to potential deductions, we'll provide you with all the information you need to comply with the law.
We'll also discuss the potential benefits of filing as an S corp in Illinois and the various tax obligations of this type of entity. Whether you're an S corp or considering setting one up, this guide will cover all the bases to ensure you properly understand S corp tax filing.
And, if you need help, you can always utilize our small business tax services.
S corporations, also known as s corps, are businesses that adhere to Subchapter S of the Internal Revenue Code. These entities provide their shareholders with certain tax benefits and are therefore highly sought after as a business structure.
An S corporation is a popular choice for many entrepreneurs and small business owners due to its pass-through taxation feature. Unlike a traditional C corporation, which pays corporation taxes on profits, an S corp does not pay federal corporate income taxes at the company level.
Instead, the profits and losses are "passed through" to the shareholders, who report them on their tax returns. This setup enables shareholders of an S corp to avoid the issue of double taxation so that the S corporation's income is only taxed once at the individual level.
Additionally, S corp shareholders may benefit from federal taxable income deductions and credits and the potential to offset business losses against personal income. Overall, the pass-through taxation feature of an S corporation can provide significant tax savings and flexibility for small businesses, making it a popular choice for many entrepreneurs.
In Illinois, as an S corp owner, you are exempt from paying the Illinois corporate tax rate, which is 9.5%. Instead, you must pay two kinds of taxes on your business's profits: personal income tax and personal property replacement tax.
The personal income tax rate is 4.95% of your adjusted gross income, which includes your salary and distributions from the LLC after deductions. The personal property replacement tax rate is 1.5%, which varies depending on the business type.
Advantages associated with electing an S corporation tax status over other legal entity options include:
1. No Double Taxation
An S corporation status avoids the issue of double taxation as the profits earned by the business are passed directly through to the owners. There is no taxation on the business' dividends; only the owners are taxed on the profits.
For instance, if an S corporation earns $50,000 in net income, the owners would not need to pay taxes at the corporate level. Instead, the $50,000 would be reported as income on their personal tax returns, and they would pay taxes on that income according to their tax rates. This ensures that the corporation does not end up paying taxes on the profits twice.
2. Shareholder-Employee Status
LLC owners often choose to be deemed an S corporation to be classified as an employee of their business. Many people see “payroll tax savings” as an incentive for employee status. Due to being a self-employed member of a pass-through entity, you are usually responsible for paying both FICA taxes - part of the Federal Insurance Contributions Act - which is 15.3% of your gross wages.
However, shareholders of an S corporation who are also seen as employees get certain advantages. If there is extra money to distribute, individual shareholders do not have to pay any additional FICA taxes on their dividends, as federal and state income taxes still apply.
3. Limited Liability
Although S corporations begin as either C corporations or limited liability companies (LLCs), they offer the same basic protection to owners as any other legal entity, namely, limited liability. This means that should the company be liable for something, the owner's liability is limited to what they have invested in the company.
Filing S corp taxes can be complicated. Follow these steps to ensure you do so correctly:
1. Prepare Your Financial Statements
Completing your financial statements, including a profit and loss statement and a balance sheet, is important before beginning your business tax filings. It's also beneficial to have your accounting software open throughout the process so that you can review expenses in greater detail.
Don't wait until the last minute to prepare your financial statements. This will give you more time to gather your records, reconcile your accounts, and identify tax-deductible expenses. Generally, keeping good records of your business transactions is invaluable. This makes it easier to prepare your financial statements for tax and to defend yourself in case of an audit.
2. Issue Forms W-2
Form W-2s for all employees should be prepared and distributed. Form W-2 reports worker wages and the funds withheld for FICA taxes over the year. Form W-2 is to be sent to the Social Security Administration (SSA), all the employees, and state/local governments, along with the cover sheet Form W-3.
Even shareholders involved in management must receive a W-2 form that includes any health insurance fees paid for by the S corp listed in box one. W-2 compensation, including shareholder-employees, is a business deduction we'll explain in the following step.
3. Prepare Information Return Form 1120-ST
Despite not paying entity-level tax, S corporations must still file a business tax return, called an information return, through Form IL-1120-ST. This form reports the S corporation's income, deductions, and credits and calculates the tax liability.
Form IL-1120-S mirrors the C corporation return (Form 1120), so be sure you are filling out the right one. Don't forget to deduct employees' W-2 earnings. Shareholders' earnings should be listed on line seven, and other employees' earnings should go on line eight.
4. Distribute Schedules K-1
S corporations must complete Schedule K and Schedule K-1 when filing Form 1120-ST. Although these two forms are distinct, Schedule K is integrated into Form 1120-ST and is used to summarize the S corporation’s earned income, deductions, and credits to be passed on to its shareholders.
Each shareholder then receives a separate Schedule K-1 document to report their respective portion of the S corporation’s total taxable earnings. In general, a shareholder's earnings are divided by their percentage of ownership interest, yet, there is a possibility for alternate agreements to be negotiated.
5. File Form 1040
As a shareholder of an S corporation, you must pay personal income tax on two sources of income: your wages (W-2 income) and your share of the S corporation profits (K-1 income). Both must be reported on your tax return using Form 1040. Your W-2 income goes on line one of Form 1040.
Then, report your portion of S corp earnings on Parts Two and Three of Form 1040 Schedule E, a form that captures all other forms of income, and Form 1040 Schedule 1, a summary of Schedule E and other income adjustments.
To avoid any potential issues or penalties, it's a good idea to speak to a qualified tax professional or read up on the relevant guidelines and regulations set out by the Illinois Department of Revenue. This will ensure your business complies with all applicable S Corporation filing regulations.
You must comply with Illinois S Corporation tax filing requirements to stay in good standing. These include filing an annual report with the Illinois Secretary of State and paying associated fees.
S-Corporations need to be mindful of their obligations regarding payroll and employment taxes:
- Reasonable salaries for shareholder-employees: Shareholder-employees of S corporations must be paid a reasonable salary for their services. This is to abide by IRS standards and prevent any issues arising from misclassifying compensation;
- Payroll tax obligations: S corporations are responsible for taking out and submitting payroll taxes for their employees, such as federal income tax withholding, Social Security, and Medicare tax. However, the S corp is not liable for payroll taxes on any allocations made to its shareholders;
- Employment tax responsibilities: S corporations must submit Form 941 (Employer's Quarterly Federal Tax Return) to the IRS quarterly to report wages paid and payroll taxes withheld. Furthermore, they must also file Form 940 (Employer's Annual Federal Unemployment (FUTA) Tax Return) to report and pay federal unemployment tax.
We recommend using a tax expert in payroll software to ensure taxes are withheld, reported, and paid accurately.
You can use the Tax Rate Database to determine the replacement tax rate for S Corporations. The specific deductions and credits that are available to an S corporation will depend on the specific circumstances of the corporation. Again, it is important to consult with a tax advisor to determine which deductions and credits are available and to claim them properly on your S corp income tax return.
As mentioned earlier, S corporations in Illinois are not subject to the Illinois corporate income tax rate. However, they are subject to Illinois replacement tax, a tax on the net income of corporations, subchapter S corporations, partnerships, and trusts. The Illinois replacement tax rate for S corporations is 1.5%.
In addition to replacement tax, S corporations in Illinois may be eligible for several tax deductions and credits.
Some of the most common deductions and credits include:
- Pass-through entity tax credit: Each shareholder of an electing pass-through entity is allowed a credit against their tax equal to 4.95% times the shareholder's distributive share of the net income of the electing S corporation;
- Research and development credit: S corporations may claim credit for research and development expenses;
- Work opportunity tax credit: S corporations may claim a credit for hiring certain individuals, such as veterans and individuals with disabilities;
- Child care tax credit: S corporations may claim a credit for providing child care to their employees.
There are also a few specific tax considerations that Illinois S corporations should be aware of, such as:
- Illinois franchise tax: Franchise tax is a flat tax of $250 for the first $500,000 of paid-in capital and $1 for each additional $100 of paid-in capital;
- SALT cap: The federal Tax Cuts and Jobs Act of 2017 (TCJA) capped the deduction for state and local taxes (SALT) at $10,000 per year. This cap applies to both individuals and S corporations. However, Illinois has enacted a pass-through entity tax (PTE tax) that S corporations may elect to permit a federal deduction of state income taxes that otherwise are limited to $10,000 per year;
- Net operating loss carryforward: S corporations in Illinois may carry net operating losses (NOLs) to future years to offset taxable income. However, there are some restrictions on the carryforward of NOLs for S corporations.
Corporate tax returns must be filed on the 18th of April, though this date may be pushed back to October 16th if necessary. Depending on a company's fiscal year-end or extensions, it can be subject to different filing requirements. To ensure compliance, it is recommended to seek guidance from the Illinois Department of Revenue or an experienced tax adviser.
As a business owner, understanding the tax advantages of an S corporation structure can help you save money. It's also important to keep up with the latest changes in the state and federal tax codes. That's why having a great tax professional on your team is always beneficial to help you understand regulations and take advantage of the benefits available.
As a Chicago-based CPA firm, we provide expert small business tax services in Illinois. Let us help you make the most of your S corp tax status. Contact Lewis.cpa for help with S corp and federal income taxes today.