C Corporation (Overview: What It Is, Advantages, Disadvantages)

What is a C Corporation?

What are the advantages and disadvantages of a C Corp?

How does it work?

We will look at the C Corporation definition, what it means, how it works, its benefits and drawbacks, how you can form one, what are the C Corp requirements, taxation, compare it to an S Corp and more.

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What is C Corporation

A C Corporation (also referred to as C Corp) is an incorporated business entity that is separate and apart from its owners (shareholders) and formed by filing the necessary incorporation papers with the state.

C Corps are the most common type of company used to run businesses.

It’s called a “C” corporation because this type of corporation is taxed under Subchapter C of the Internal Revenue Code.

In essence, a C Corporation is required to pay corporate income taxes on its profits to the tax authorities and cannot have its income pass through to its shareholders (pass-through taxation).

By referring to a “C” corporation, we are not referring to a different type or class of corporation but rather the tax regime applicable to a standard corporation.

C Corporation definition

By definition, a C Corporation refers to the tax status applicable to the corporation and not business entity type.

Any corporation formed in the United States will be designated as a C Corporation for tax purposes by default.

In other words, it will be taxed under Subchapter C of the Internal Revenue Code where the company will have two layers of taxation:

  • Corporate income tax on company profits (first taxation lawyer)
  • Personal income tax on profits paid to shareholders (second taxation layer)

From a legal perspective, the definition of C Corporation is the same thing as the definition of a Corporation

According to the Merriam-Webster dictionary, a corporation is defined as:

A body formed and authorized by law to act as a single person although constituted by one or more persons and legally endowed with various rights and duties including the capacity of succession
Author

C-Corps are legal entities formed by filing the required articles of incorporation with the state.

A C Corporation (or more generally a “corporation”) can be distinguished from other types of business entities such as:

  • Sole proprietorships
  • Limited liability companies
  • Partnerships 

Forming a C Corporation

C Corporations are formed or organized by following the incorporation steps with the applicable state.

Let’s see how it works in a nutshell before we describe it in more detail:

  • Select your company name
  • Perform a business entity name search 
  • Draft and file your articles of incorporation with the Secretary of State or equivalent agency and pay for your filing fees
  • Hold your organization meeting where you issue your stock certificates to the shareholders, appoint directors and adopt bylaws
  • Apply for your tax ID number (EIN)
  • Apply for your business license 

Let’s look at these steps in further detail.

Typically, the first step in forming a C Corporation is to choose your business name.

It’s important that the name you intend to give to your C Corporation be available.

A corporation must have the abbreviation “INC” in its name.

Check out our article on the meaning of INC to learn more about that.

To verify that, you can perform a business entity name search or reserve the business name by following the local state requirements.

Once you have decided on your name, the second step is to draft and file your articles of incorporation with the Secretary of State or equivalent agency.

Every state will have its unique forms and procedures for filing the articles of incorporation.

You’ll need to ensure you comply with the domestic requirements.

Once the corporation is formed, you will receive a certificate of incorporation issued by the state confirming your company’s legal existence.

The third step is for the corporation to hold its first organization meeting where the shareholders receive their stock certificate, directors are appointed and company bylaws adopted.

You must then file a Form SS-4 to obtain its Employer Identification Number (also referred to as EIN).

The EIN is the number associated with the C Corporation when dealing with the IRS or the authorities for corporate income tax, payroll, unemployment, disability taxes and others.

If a business license is needed, the C Corporation must apply for the necessary business license (that may be needed per state, county or township).

C Corporation compliance 

Once C Corporations are formed and their certificate of incorporation issued, the company owners must ensure that they remain compliant with the state laws on an ongoing basis.

Essentially, a C Corporation must:

  • Hold annual meetings of the shareholders (annual general meeting or AGM) to elect the members of the board and make important business decisions 
  • Hold annual board of directors meeting to appoint the company directors
  • Keep a record of the board meetings with detailed meeting minutes 
  • Ensure that business decisions are documented in its corporate minute book
  • Keep voting records of the shareholders and directors
  • Keep a record of the shareholders, directors and officers 
  • Adopt bylaws kept at its primary place of business 
  • File annual reports with the state
  • Pay annual, biennial or periodical state registration fees 
  • File financial disclosure reports
  • File financial statements 

Depending on your company, you may have more C Corp requirements to add to your list or perhaps some exemptions.

C Corporation taxes

A C-Corporation must pay corporate taxes on its revenues and profits.

That’s why it is designated as a “C” corporation as it is taxed under Subchapter C of the IRC.

Once its corporate income taxes are paid, its net profits can be distributed to its shareholders in the form of dividends.

However, when individual shareholders receive dividends from a C Company, they must report the dividend payout on their personal income taxes and pay the applicable taxes.

This combination of corporate income tax paid by the company on its revenues and personal income tax paid by the shareholder on the dividends originating from the same revenues is referred to as “double taxation”.

For some, double taxation may be an important drawback leading them to favour another type of business entity such as an S Corporation, LLC or even a partnership allowing them to take advantage of pass-through taxation.

Pass-through taxation is to have the company revenues taxed only once but directly in the business owners’ hands.

On the flip side, business owners who can afford to reinvest the company’s corporate revenues may see a benefit due to the lower Subchapter C Corporation corporate income tax rate.

By default, an incorporated entity will be subjected to Subchapter C of the IRC and taxed as a C Corporation.

As a result, if you are looking to form a C Corporation, you do not have any specific tax elections to make with the IRS once your entity is formed.

A C Corp will pay its corporate income tax by using the U.S. Corporation Income Tax Return (Form 1120).

C Corporation - 1 corporate income tax return Form 1120

S Corp vs C Corp

You may have heard of an S Corporation or perhaps you are reading this article contemplating forming an S Corporation.

What are the differences between an S Corp and C Corp?

An S Corporation is a corporation just like a C Corporation with the difference that it is taxed under Subchapter S of the Internal Revenue Code.

The most important reason why a business owner may elect to have an S-Corp is to benefit from pass-through taxation (get rid of the double taxation disadvantage of the C-Corp).

However, not all corporations can qualify as an S-Corp. 

A corporation can qualify as an S-Corporation if:

  • It has less than a total of 100 shareholders
  • All its shareholders are U.S. citizens 
  • Can only have one class of shares 

Generally, the S Corporation will provide the same fundamental protection as a C Corporation such as limited liability.

Let’s look at how the S Corp differs from a C Corp:

  • It offers flow-through taxation to shareholders where all the company revenues are taxed directly in the hands of the shareholders 
  • Shareholders can take advantage of qualified business income deductions as per the Tax Cuts and Jobs Act of 2017
  • Shareholders may pass-through business losses to their personal income tax return to offset their income 
  • The S Corp does not have to file a separate tax return from its shareholders (it has a single layer of taxation)
  • An S Corp cannot have more than 100 shareholders 
  • Cannot raise financing as easily as C Corporations as VC and external investors may not be eligible shareholders 
  • An S Corp will not be able to go public through an initial public offering 
  • It cannot issue different classes of shares like preferred stock (all shareholders must have the same class of stock)
  • There are share transfer restrictions (to ensure the company does not lose its S Corp status)

Advantages of C Corporation 

There are several key benefits in operating a business as a C-Corp:

  • Limited liability protection afforded to its C Corp shareholders 
  • Limited liability protection afforded to C Corp directors
  • C Corporations are the most preferred business structure by investors, venture capitalists and external funders
  • Flexible ownership structure where the C Corp’s shares are readily transferable 
  • C Corporations can authorize different classes of shares to be issued from its capital stock such as preferred shares, non-voting common stock or other
  • Ability to issue an unlimited number of shares (or authorized shares) to as many shareholders and eventually sell shares to the public through an IPO (bearing in mind that beyond a certain threshold, the Securities Exchange Act of 1934 will apply)
  • No restriction on ownership of the business (shares can be issued to U.S. and non-U.S. citizens)
  • Unlimited lifespan (it can stay in business for so long as it is profitable)
  • Operating a business as a corporation enhances the business owners’ credibility 
  • It can deduct certain expenses as business expenses such as fringe benefits, health insurance, long-term care, disability insurance premiums 
  • The corporate tax rate is low if business revenues are reinvested in the business 
  • Net operating losses of the C Corporation can be carried forward to offset future operating profits 

The most notable advantage of a C Corporation is that you can own and operate your business without personal liability for the business’s debt, financial obligation, or liability.

Individual shareholders are legally shielded from business debt.

As such, the business’s creditors cannot personally pursue the shareholders to recover debt, demand the execution of corporate financial obligations or for any other business liability.

Another notable advantage in incorporating a C Corp is the ability to raise capital and get external financing.

C Corporations represent one of the business entities suitable for attracting potential investors in the future such as angel investors, venture capitalists or other types of equity investors.

Having the ability to issue shares, C Corps can sell a percentage of the business to investors in exchange for capital needed to fund the business growth and development.

In essence, C Corporations can have unlimited growth potential by attracting investors.

Many of the biggest companies in the world by market capitalization are C Corporations.

Disadvantages of C Corporation 

Although there may be important advantages in forming a C Corporation, you must also be aware of its disadvantages.

What’s important is that you select the right business entity suitable for your business, future business objectives, and risk tolerance. 

Here are some of the important drawbacks of running your business under a C-Corp:

  • You will have double taxation 
  • The shareholder of a C-Corporations cannot deduct corporate losses on their personal tax returns 
  • Forming a C-Corporation is going to be more expensive than other types of businesses 
  • You must comply with many laws and statutes to remain in good standing

The most significant drawback to C-Corporations relates to double taxation.

When a company earns revenues, it must report its corporate income to the tax authorities and pay taxes based on the applicable corporate income tax rates.

Then, if the company distributes profits to its shareholders, the shareholders will also have to pay taxes on the dividends received at their personal tax rates.

This results in the same dollar being taxed twice.

For business owners who may want to take most of the company profits out, the double taxation may not be favourable and should consult with their tax advisor.

The other notable drawback to corporations is that it will be costly to start when compared to other business entities.

You have a few options when looking to form your C Corporation:

  • Handle everything yourself (cheapest option but may lead to costly errors)
  • Hire an incorporation service company (moderate cost, good quality of service but without legal advice)
  • Hire a business lawyer or incorporation lawyer (highest cost and suitable for those looking for strategic advice)

C Corporation FAQ

What is the benefit of C corporation

There are many benefits to starting or operating a business as a C Corporation.

Many startups incorporate a C Corporation as they aspire to raise capital by selling shares to investors and venture capitalists and eventually go public.

Here is a quick list of the benefits of a C Corp:

  • Limited liability protection for shareholders and directors
  • Preferred entity type by investors 
  • Flexible ownership structure 
  • Can issue an unlimited number of shares
  • No shareholder ownership restrictions 
  • Perpetual life 
  • Provides business credibility 
  • Allows for deductible business expenses 
  • Low corporate income tax rate
  • Operating losses can be carried forward 

What is difference between C Corp and S Corp

C Corps and S Corps are similar in substance.

They both provide limited liability protection to their shareholders, they are separate legal entities, they are formed similarly and must comply with state laws to remain in good standing.

However, an S Corp is a company that elects to be taxed differently than C Corporations.

As such, the S Corp income is flown down to its shareholders (pass-through taxation) avoiding the double taxation mechanics of a C Corp.

To make it simple, here is a quick list of the differences between C Corporations and S Corporations:

C-CorporationS-Corporation
TaxationDouble TaxationPass-Through Taxation
Shareholder OwnershipUnlimited Number ShareholdersMaximum of 100 Shareholders
Shareholder ResidencyNo RestrictionsU.S. Citizens Only
Class of SharesNo RestrictionsOne Class of Shares

What are the C Corporation advantages and disadvantages

A type C Corporation offers many benefits but also some disadvantages. 

The main C Corp benefits are:

  • Shareholders are not personally liable for the C Corp liability  
  • You can raise capital by selling shares 
  • The shareholders can be U.S. or non-U.S. citizens 
  • C-Corps have low corporate income tax rates

The main C Corp drawbacks are:

  • Double taxation 
  • Corporate losses cannot be passed to the shareholders 
  • High cost of formation 
  • Complex compliance rules to observe to remain in good standing 
Business blog - C Corporation