IRS Form 2553 and S Corporations: A Guide

Whether you’re running a law firm or a small business, understanding IRS Form 2553 is crucial for a few reasons. 

From a financial perspective, Form 2553 is key to electing S Corporation status, which can provide significant tax advantages and savings. And, if your firm serves clients who own small businesses themselves, being knowledgeable about this form will increase your credibility as well.

Keep reading to learn the essentials of Form 2553, its benefits, and the process for filing it.

Find the form here: IRS Form 2553, Election by a Small Business Corporation

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What is IRS Form 2553?

IRS Form 2553, officially titled “Election by a Small Business Corporation,” allows a corporation to elect S Corporation status. 

An S Corporation, or “S Corp”, is a type of corporation that meets specific Internal Revenue Code requirements. In an S Corp, the owners can also be company employees and have to be paid a “reasonable salary” (which, according to the IRS, is “the value that would ordinarily be paid for like services by like enterprises under like circumstances”), which they pay payroll taxes on. 

The advantage is that any additional company profits (on top of the salary) will only be subject to income taxes, not payroll taxes. Because of this, it would make sense to elect S Corp status if you anticipate making a profit that is significantly higher than the owners’ salaries. 

You can still make the election otherwise, but it may not result in meaningful enough savings to be worth the extra work of filing the election. If you’re not sure, it’s best to talk to a tax advisor or CPA before deciding whether to file Form 2553.

For some businesses, including law firms, electing S Corp status can result in substantial tax savings. 

What are the benefits of electing S Corp status?

By filing Form 2553, owners of corporations can avoid double taxation, or paying taxes at both the corporate and individual levels. But there are a few other noteworthy benefits, too. Here are the top advantages of electing S Corp status:

1. Pass-through taxation: One of the most oft-cited benefits of an S Corp is pass-through taxation. This means the corporation’s income, losses, deductions, and credits pass through to the shareholders’ personal tax returns, avoiding the corporate tax level.
2. Protection of personal assets: For attorneys who are also sole proprietors, their own assets are at risk if creditors or other relevant parties decide to file a legal claim against them. With an S Corp, your personal assets are protected.
3. Simpler accounting: S Corps aren’t subject to the same complex accounting rules as C Corporations (another type of legal entity and structure where the owners or shareholders are taxed separately). This simplicity can save time and reduce the administrative burden for busy law firms and small businesses.

Eligibility criteria for Form 2553

To file Form 2553 and elect S Corp status, your business must meet the following requirements:

• Be a domestic corporation: Only domestic corporations can elect S Corp status.
• Have eligible shareholders: Shareholders must be US citizens, resident aliens, estates, certain trusts, or tax-exempt organizations. Partnerships, corporations, and non-resident aliens can’t be shareholders.
• Have one class of stock: The corporation must have only one class of stock, although differences in voting rights are allowed.
• Have a limit on the number of shareholders: The corporation can have no more than 100 shareholders.

Step-by-step instructions for completing Form 2553

1. Fill out your basic information

You’ll need to provide information like: 

• Your corporation’s name and address
• The Employer Identification Number (EIN)
• The date and state of your business’ incorporation
• The names and addresses of all your shareholders, the number of shares they own, and when they acquired them

2. Indicate the effective date

You’ll need to choose the effective date of the S Corp election. This date is typically the beginning of the tax year in which the election is made. Note that this is also a good time to think about your fiscal tax year if you haven’t already done so—do you want it to start with the regular calendar year (January 1), or another date?

3. Get consent from your shareholders

All shareholders must consent to the S Corp election. This is done by having each shareholder complete and sign column K (Shareholder’s Consent Statement) of Form 2553, or a similar document that is attached to Form 2553. For a law firm, this step may involve coordination among the partners.

4. Submit the form

File the completed Form 2553 with the IRS. Make sure it’s submitted within 75 days of the beginning of the tax year, or within 75 days of incorporation if the business is newly formed.

Common mistakes to avoid when filling out Form 2553

1. Not planning your timeframe

Technically, there is no deadline for filing Form 2553. However, there are some rules for when you should submit it:

1. You have to file the form within two and a half months (two months and 15 days) of  the beginning of the tax year when the election takes place. For example, if you use a calendar year as your fiscal year, you’d need to file Form 2553 by March 15 of the year when you want the election to take place.
2. If you’ve planned ahead, then you have a bit more flexibility. You can file at any time for an election happening the next year—for example, if you want to elect to become an S Corp in 2025, you can file Form 2553 any time in 2024.

Make sure you understand your election timeframe and file at the right time. It is possible to submit your form late, but you have to have what the IRS deems to be “reasonable cause.” (there is more information on what constitutes “reasonable cause” on their website, under the “Relief for a Late S Corporation Election Filed by a Corporation” section.)

2. Not double-checking information

Ensure all information on the form is accurate. Errors can delay processing and impact your election.

3. Forgetting to get shareholder consent

All shareholders must consent to the election. Failing to obtain and document this consent can invalidate the form.

Maintaining S Corp status

Don’t forget, once you’ve achieved S Corp status, you’ll have to stay on top of several key tasks to stay compliant and maintain your status:

• File your taxes on time: Every year, ensure timely filing of Form 1120S (the US Income Tax Return for an S Corporation).
• Keep an eye on shareholder restrictions: Monitor shareholder eligibility and the number of shareholders your corporation has (it must be fewer than 100) to ensure compliance with IRS rules.
• Keep accurate and up-to-date records: Maintain accurate records of the corporation’s income, expenses, and shareholder distributions.

Is Form 2553 right for your law firm?

Electing S Corp status via IRS Form 2553 can offer substantial tax benefits for both law firms and other small businesses. 

By understanding the requirements, benefits, and process for filing Form 2553, you can make an informed decision that enhances your business’s financial health and sets it up for sustainable future success.

By taking these steps, you’ll be well on your way to leveraging the benefits of an S Corporation while ensuring compliance and optimizing your tax strategy. For more information or to get started, you can access IRS Form 2553 here.

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Disclaimer: This article is provided for informational purposes only. It does not constitute legal, business, or tax advice.