Elizabeth Wasserman

The Pros and Cons of Setting Up a C Corp

 

4. Write by-laws and a shareholder agreement.

To operate a corporation, there must be by-laws and other written guidance as dictated by the law in the state you incorporate in and dictated by good business practices.

By-laws are the governing rules for the corporation. "They stay in existence for as long as the corporation does, although they can and usually are amended from time to time," Weltman says. State law may outline many required rules; corporations can in some cases create their own rules. Weltman advises to include in the by-laws such information as:

  • The time and place for meetings of officers, directors, and shareholders.
  • How many directors there will be and how long they will serve (state law may dictate this).
  • The compensation of officers (which can be amended from time to time).
  • The business year of the corporation (which can be a calendar year or a fiscal year in some cases).
  • Rules for adopting and amending by-laws.
  • Rules for approving contracts, loans and other actions of the corporation (e.g., whether an officer can act on behalf of the corporation or there must be agreement among shareholders).
  • The location for inspection of corporate records.

"It is also advisable to create a shareholder agreement -- also referred to as buy-sell or buyout agreements -- to specify what happens to ownership interests in case of death, disability, retirement, bankruptcy or other contingency involving a shareholder," Weltman says. "For example, will a deceased-shareholder's shares be bought back ("redeemed") by the corporation or purchased by the remaining shareholders?"

5. Pay your taxes.

A C corporation is a separate taxpayer for federal income tax purposes. It files a return, IRS Form 1120, to report its income and expenses. There is a separate tax rate schedule for corporations, with rates ranging from 15 percent to 35 percent.

Shareholders of C corporations only pay tax when and to the extent they receive distributions from the corporation, Weltman says. These distributions can include:

  • Salary and bonuses. These are taxed to shareholder-employees at their personal tax rates. Payments are also subject to payroll taxes, including Social Security and Medicare taxes, FICA, paid by both the corporation and shareholder-employee. Compensation and the corporation's share of payroll taxes are fully deductible by the corporation.
  • Dividends. These are taxed to shareholders at a maximum rate of 15 percent (this rate may be increased in the future for higher-income shareholders). The corporation cannot deduct these payments, but they are exempt from payroll taxes.
  • Fringe benefits. Many of these are tax-free to shareholders. Assuming the benefits meet tax law requirements (usually they must be provided to all employees on a nondiscriminatory basis and not just to shareholder-employees), then the corporation can deduct them and, in most cases, the benefits are exempt from payroll taxes, Weltman says.

There may also be state-level income taxes on C corporations in the states in which they do business. Usually there is a minimum payment required to do business in a state; this is sometimes called "a franchise tax" even though there is no franchise involved.

6. Attend to other details.

Make sure to deal with various other business matters before your begin operations:

  • Obtain a federal employer identification number. A new C corporation must obtain a federal employer identification number (EIN). Obtaining an EIN can be done instantaneously and at no cost from the IRS. Any principal officer, such as the corporate president, can do this on behalf of the corporation.
  • Pay other taxes. Check with your state tax authority to learn about sales, use, payroll and other taxes that may apply to the corporation's business. The corporation may be required to collect sales taxes on the goods and services sold and to turn over collections to the state, as well as to report on collections on sales tax returns.  To find your state tax authority's website, go to this website.  Once there, click on the "Forms and Publications" link and download the form businesses are required to file to register for state taxes.  Certain cities and municipalities require you to register for their taxes as well -- check with a local accountant to make sure you haven't overlooked any taxing jurisdiction where your corporation is located.
  • Obtain licenses and permits. Depending on your type of business, the corporation and/or each owner-employee may be required to have a license or permit to operate legally.
  • Obtain insurance. While the corporation affords shareholders personal liability protection, in order to safeguard business assets be sure to carry adequate insurance for the unexpected. Discuss these and other types of coverage with an insurance agent.

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Elizabeth Wasserman is editor of Inc.'s technology website, IncTechnology.com. Based in the Washington, D.C. area, she has more than 15 years experience writing about business, technology, and politics for newspapers, magazines and websites. Her work has appeared in such publications as Congressional Quarterly, Business Week, Portfolio and Slate.