C Corporation Definition: A C Corporation is the standard issue corporation. Its profits are taxed both at the corporate and individual level, it must comply with the greatest number of formalities, and it has no limit on the number of shareholder. Learn more about C Corporations from Startup Legal:
Limiting Personal Liability: An C Corporation, like an S Corporation, protects owners, directors and employee from exposure to the liabilities, debts and obligations incurred by their business. In many states, one person may own all the stock in an C Corporation and act as the corporation’s only employee while still maintaining protection from personal liability.
Exceptions to limited liability protection:
A corporation takes out a loan, and someone within the corporation personally guarantees the loan. Such personal guarantees are usually required when a corporation is undercapitalized and/or has not established a credit history.
State and federal governments can hold the corporate employee who is responsible for reporting and paying corporate taxes personally liable for unpaid taxes or penalties that come as a result of not paying taxes.
Normally, the party burdened with personal liability is the corporate Treasurer.
Members of an S Corporation can be found personally liable for breach of duty that they owe to the corporation.
Directors and officers have a “duty of care” to act responsibly when performing corporate duties. Generally, if directors and officers attend meetings and carry out their responsibilities designated to them in the corporate bylaws, they will not be found in breach of their duty of care.
Piercing the Corporate Veil: In certain limited instances, creditors or litigants can attempt to impose personal liability on principals in a corporation by claiming that the corporation is a sham, a device created merely to defraud creditors, or is being run as a sole proprietorship (e.g., no shareholder’s meetings or director’s meetings have taken place; there has been a commingling of corporate and individual property).
The process of imposing individual and personal liability is referred to as “piercing the corporate veil” or “disregarding the corporate entity.” Ordinarily, a party seeking to pierce the corporate veil will have a heavy burden in attempting to persuade the courts to disregard the corporate entity.
Directors: The board of directors are representatives of the shareholders. They make the important policy decisions of the company and elect the officers. Many states require corporations to have the lesser of 1) three directors, or 2) directors equaling the number of shareholders in the corporation.
Officers: The officers manage the day to day operations of the corporation. Generally, the first three officers of a corporation are the President, Treasurer and Secretary. In many states, a for-profit C Corporation with one director may have one officer fill all three roles.
Meetings: C Corporations must hold annual meetings of the board of directors, as well as annual shareholder meetings. Corporate bylaws may be drafted to allow shareholders and/or directors to attend annual meetings by proxy.
Shareholder Reports: A C Corporation will have to issue annual reports to shareholders, updating them on the financials of the company as well as any other pertinent matters.
State Reports: Most states require C Corporation to file annual (in some states biannual) reports with the state, updating the status of directors, officers, shareholders, and/or the corporation in general.
Despite the “double tax” on C Corporations, in certain scenarios a C Corporation may actually offer tax benefits to small business owners.
C Corporations can allow an owner to take advantage of corporate tax rates that are lower than individual tax rates. For example, assume a C Corporation profits $75,000 in a given year. An owner may leave $50,000 in the business and pay himself a salary of $25,000 (if reasonable for his profession). The $50,000 of profits left in the C Corporation would be taxed at a rate of 15% at the federal level. If the owner were to recognize the same $50,000 as personal profits, he would be taxed approximately 10% more.
The structure of a C Corporation can be particularly advantageous in the early years of operation when owners want to reinvest into their business. However, owners may reach a point where they want to take money out of the corporation beyond their salary.
At this point the C Corporation structure becomes less attractive. Profits taken by the owners as distributions of corporate earnings will be taxed once at the corporate level and then again upon distribution to the owners. Some C Corporations can avoid this problem by increasing salaries, thereby never having to make distributions.
Before employing the tax-splitting strategy, an owner should consider whether he expects to make distributions, or whether he would be willing to convert from a C Corporation to a different entity in the future.
If a C Corporation fails, shareholders who were active participants in the business can write off their stock purchase as an ordinary tax loss. The loss can be used to offset ordinary income that the shareholder has from other sources. For example, if a shareholder purchased 10 shares of a corporation for $10,000, and the shareholder looses that entire investment, he can use that loss to reduce by $10,000 the amount of salary income that would otherwise be subject to income tax.
With a C Corporation, certain fringe benefits can be written off as business expenses for tax purposes. For example, an owner of a C Corporation can hire himself as an employee and have the corporation pay his insurance premiums and unconverted medical expenses. The corporation can deduct this expense, and the owner will not be personally taxed for the value of the employment benefit.
Employees of a C Corporation, even if they’re shareholders, do not have to pay taxes on the value of the fringe benefits they receive. Fringe benefits may include: deferred compensation plans, group term life insurance, reimbursement of employee medical expenses that are not covered by insurance, and health and disability insurance. While most entities can deduct these expenses, C Corporations are the only entities that allow employees to escape taxation on the added value of the benefits.
However, there is a drawback. Owner-employees who put together fringe benefit plans for the benefit of owner-employee will be taxed on the benefits they receive.