Part of the process of launching a small business includes choosing your tax status. This classification is not just a formality: it can affect your tax liabilities and available legal protections. Existing businesses can change their classifications, and that’s what IRS Form 2553 is used for.
What is IRS Form 2553?
IRS Form 2553 is a federal tax form that an eligible business must file to register as or switch their tax status to, an S corporation. Before completing it, you should understand the distinction between Form 2553 vs Form 8832, which is similar. The latter is for companies seeking C corporation status, whereas the former is for companies seeking S corporation status.
Who can file IRS Form 2553?
A C-corporation, LLC, sole proprietorship, or partnership can file IRS Form 2553 to become an S corporation, but not every company registered as one of these types of business operations can do so. To apply for S corporation status, your company must meet the following criteria:
- Domestic corporation. Only U.S.-based companies can file tax form 2553.
- Allowable shareholders. For an S corporation, allowable shareholders are:
- Estates and some trusts
- Individuals who are U.S. citizens, permanent residents, or resident aliens
- Not other partnerships or corporations
- Have at most 100 shareholders. If you want to run a corporation with more than 100 shareholders, you can file IRS Form 8832 to classify your company as a C-corporation.
- Have only one class of stock. This stock class limitation effectively eliminates shareholder voting rights in your corporation.
- Not be an ineligible corporation. Many financial institutions, insurance companies, and U.S.-based international sales companies cannot qualify as S corporations. Check with your accountant before filing IRS Form 2553.
The benefits of registering as an S corporation
Some reasons to file Form 2553 and make your company an S corporation include:
- Pass-through taxation. Company profits are added to your personal income and taxed as such, whereas C corporation owners undergo double taxation: Once on their personal income, and once on their company’s income.
- Legal protection. Registering your company as an S corporation affords liability protection that partnership status does not.
- Ownership changes. In an S corporation, ownership changes are far easier to process than in a partnership or LLC.
- Cash method of accounting. If you want to use the cash method of accounting for your company, you can only do so as an S corporation, not a C corporation.
For further reading on the benefits of filing as an S corp, check out these SmartBiz Loans blogs:
IRS Form 2553 Instructions
Although IRS Form 2553 may at first glance appear overwhelming, it often requires minimal work, especially if you follow these IRS Form 2553 instructions:
1. List your company basics
In the top portion of IRS Form 2553, fill in the boxes for your company’s name, address, employer identification number (EIN), date incorporated, and state of incorporation. Then, if your company has changed its name or address since applying for its EIN, check the appropriate option in box D.
2. Fill in your election information
In box E, write the starting date of the tax year during which you want your S corporation classification to first apply. You can’t choose any random date: Your effective date can be at most 75 days prior to when you file IRS Form 2553. If your company is brand new, your effective date should be one of the below three options:
- The date your company began making transactions
- The date your company acquired its first shareholders
- The date your company obtained its first assets
3. Select your fiscal tax year
In box F, check the option corresponding to your choice of fiscal tax year type. Your selection will vary depending on your effective date. If you check boxes 2 or 4 within box F, you’ll need to complete Part II of Form 2553; otherwise, you can ignore it (and possibly Parts III and IV too).
4. Designate a point of contact
In box H, you must designate an officer or legal representative, likely your company’s lawyer or law firm, whom the IRS can contact.
5. If filing late, look at box I, but save it for later
As previously mentioned, your company’s effective date for becoming an S corporation must be no more than 75 days prior to filing Form 2553. If your effective date exceeds this deadline, use box I to explain why, but don’t do so until you’ve looked at Part IV, which will be discussed later.
6. List your shareholders
In boxes J through N, list your shareholders’ names, addresses, taxpayer identification numbers (TINs), personal tax year start and end dates, stock owned or percentage of ownership, and consent to register as an S corporation. There’s only space for seven shareholders – if you have more, you can add extra sheets with the same tables.
At the top of the next page, you’ll see a signature area. A company officer must sign this box and list the company’s EIN. At this point, you’re done with Part I and can move onto Part II if required.
7. Complete Part II if required
If you checked boxes 2 or 4 within box F of Part I, then complete Part II. In this section, choose one of four non-calendar fiscal tax years:
- Natural business year. In this fiscal year, your company’s fiscal year begins after its highest-revenue period. This fiscal year may be best for seasonal businesses.
- Ownership tax year. If your shareholders elect to follow a different fiscal year than the calendar year, then your company operates on an ownership tax year.
- Business purpose tax year. This category describes any business reasons besides natural business and ownership for diverging from the calendar year. For example, many universities use the school year as their fiscal year instead of the calendar year.
- Section 444 tax year. If your company makes periodic tax payments throughout the calendar year, you may be able to separate your fiscal year from the calendar year through a law known as Section 444.
Once you’ve made your selection, skip ahead to Part III.
8. Complete Part III (qualified Subchapter S Trust election) if required
Like Part II, Part III of IRS Form 2553 might not apply to your company. Part III is solely for Qualified Subchapter S Trust (QSST) election. If one of your shareholders will be a QSST, fill out Part III with the requested information about that shareholder. If not, jump ahead to Part IV.
9. Look at Part IV (late corporate classification election representation) if required
Earlier in these IRS Form 2553 instructions, you saw that you must first look at Part IV before filling out, if necessary, box I of Part I. Now that you’ve arrived at Part IV, look at the acceptable late corporate classification election representation reasons. Then, with those in hand, return to box I or Part I and explain your reason for filing late.
10. Know when to submit Form 2553
If your company is already established, you can file Form 2553 at any time during the prior fiscal year. Companies operating on a calendar-year fiscal year must file Form 2553 by March 15 of the fiscal year during which S corporation status begins.
How to decide if an S corporation is right for you
Now that you’re familiar with S corporations and IRS Form 2553, you may want to speak with your accountant about making the change. Knowing these fundamentals ahead of your meeting may leave you better prepared to make a decision. Among the factors on the table is your ability to access funding as an S corporation.
