What Is an S Corporation?
S corps are formal businesses — either limited liability companies (LLCs) or corporations — that elect to be treated under the tax designation governed by Subchapter S of the Internal Revenue Code (IRC).
As a hybrid, pass-through tax entity, an S corp passes its business profits and losses through to its shareholders.
In most cases, S corps are exempt from paying income taxes because their profits and losses pass through to their shareholders.
When a company elects S corp status, any owners who also work within the company must pay themselves a compensation or wage that’s commensurate with the work they perform. The company may then treat the remainder of its profits as pass-through distributions to shareholders.
How Do S Corp Taxes Work?
S corps are a hybrid form of pass-through tax entity that combines aspects of both partnerships and corporations.
Like other pass-through entities, an S corp distributes its profits among the company’s shareholders rather than facing taxation at the corporate level.
But, S corps are a unique category of pass-through entity because, unlike other pass-through businesses, their profits and losses pass through to their owners in two distinct ways.
First, the Internal Revenue Service (IRS) dictates that any S corp shareholder who also serves as a director, manager, or employee of the company must receive a fair wage. So, S corp owners have to pay themselves a salary or some other kind of wage for the work they do for the company.
The IRS also says that reasonable compensation is “the value that would normally be paid for similar services by similar businesses in similar situations.”
Second, S corps may distribute their remaining profits among their shareholders in the form of dividends. As a result, S corp shareholders’ salaries and their share of the company’s profits are taxable as individual income — and thus remain exempt from taxation at the corporate level.
Many business owners use formation services like ZenBusiness to set up their S corps.
Payroll Taxes for S Corps
All employers must collect, report, and remit federal taxes from their employees' paychecks to the IRS. These taxes include personal federal income taxes the company withheld from an employee’s pay as well as Social Security and Medicare taxes.
The Federal Insurance Contributions Act (FICA) is the payroll tax law through which the United States funds its Social Security and Medicare programs. Employers and employees are each responsible for a portion of each employee’s FICA taxes.
Because the IRS requires S corporations to pay shareholders for any work they perform for the company, nearly all S corps have at least one employee and thus must file and remit payroll taxes.
The current tax rates for Social Security and Medicare taxes are 12.4% of the first $147,000 for Social Security and 2.9% for Medicare, respectively. Typically, employers and employees are each responsible for half of the total rate.
Thus, employers must withhold 6.2% of an employee’s wages (up to $147,000) for Social Security taxes as well as contribute and remit their own 6.2%. In addition, employers and employees are each typically responsible for 1.45% of each employee’s total wages in Medicare taxes.
How to File Payroll Taxes
The IRS requires nearly all employers with paid employees to file Form 941 every quarter to report on the salaries, wages, and compensation they paid. Companies also use this form to remit and pay their employees’ withheld federal income taxes as well as Social Security and Medicare taxes.
The information you’ll need to report on Form 941 includes:
- How many employees received compensation from your S corp during the quarter
- The total salaries, wages, and compensation paid
- Tips reported by your employees
- Federal income taxes withheld
- Social Security and Medicare taxes due
- Any adjustments or credits
S corps can file Form 941 three different ways:
- US mail
- Electronic submission via an IRS-approved software provider
- Hiring a professional payroll service, accountant, or tax preparer equipped to prepare and efile employer quarterly tax returns.
When to Make Payroll Tax Payments
When and how often you pay your S corp’s payroll taxes will depend on the size of your payroll — and payroll taxes — in the previous period.
Based on the size of your company’s payroll, the IRS may require you to make payroll tax payments:
Here’s how the IRS determines the frequency of payroll tax payments:
- Less Than $2,500 Per Year: Businesses with less than $2,500 of payroll tax payments annually may pay their payroll tax liability annually by filing Form 944.
- Less Than $2,500 Per Quarter: Businesses that paid less than $2,500 in payroll taxes last quarter or this quarter may be able to pay their payroll taxes quarterly along with their Form 941.
- More Than $50,000 in the Past 12 Months: Businesses that paid more than $2,500 quarterly but less than $50,000 in payroll taxes during the previous 12 months must remit their payroll taxes on a monthly basis.
- More Than $50,000 in the Past 12 Months: Businesses with more than $50,000 of payroll tax payments during the past 12 months must make payroll tax payments biweekly (every other week).
How to Make Payroll Tax Payments
S corporations — along with all employers — must make their payroll tax payments in one of two ways:
- By using the IRS’s Electronic Federal Tax Payment System (EFTPS), according to their payment schedules
- By making a same-day wire payment using the Federal Tax Collection Service.
The IRS will automatically enroll your company in the EFTPS after you apply for and receive an Employer Identification Number (EIN). Check out our guide on How to Get an EIN if you need more information on obtaining an EIN for your company.
If there’s any balance due when filing Form 941, employers may pay by:
What Other Taxes Do S Corps Need to File and Pay?
In addition to payroll taxes, S corps have several other tax responsibilities. These include paying Federal Unemployment Tax Act (FUTA) taxes and filing an informational income tax return.
Federal Unemployment Taxes (FUTA)
The Federal Unemployment Tax Act (FUTA) requires that all employers pay into the federal unemployment system, which is part of a larger system to fund federal unemployment programs and state unemployment benefits.
Employers can use Form 940 (Employer’s Annual Federal Unemployment Tax Return) to file their federal unemployment taxes. In most cases, they must file and pay federal unemployment taxes on a quarterly basis. However, the IRS may permit some small employers to make their FUTA payments less frequently.
You’ll also need to check with your state because the majority of states also have their own unemployment taxes that employers need to pay.
Income Taxes (Informational Return Only)
Although S corps are pass-through tax entities, their tax reporting requirements require several filings.
The IRS requires S corporations to report their business profits and losses, the salaries and wages they paid to their employees and owner-employees, and any remaining profits and losses they passed through to shareholders.
First, an S corp must use Form W-2 (Wage and Tax Statement) to report salaries and wages paid to its employees and owner-employees. S corps can then treat these salaries and wages as an expense when calculating the company’s profits and losses.
Second, S corps must use Form 1120S (US Income Tax Return for an S Corporation) to report the income, expenses, deductions, and credits applicable to the business during the reported tax year.
Third, S corps must then report the profits and losses they allocated to each shareholder via Schedule K-1 (Shareholder’s Share of Income, Deductions, Credits, etc.). S corps need to create a separate Schedule K-1 for each shareholder and send the corresponding copies to each shareholder and the IRS.
For more on S corp taxes, including the types of taxes you may need to file as an S corp, check out our How to File S Corp Taxes article.