Business owners form an S Corporation
by filing an IRS form 2553. The advantage
is that it allows the IRS to tax the
corporation like a partnership or proprietorship.
The corporation can pass its profits
and losses directly to the shareholders.
There are certain limits on S Corporations
that are not the same as an LLC (Limited
Liability Corporation). This becomes
obvious during an S Corporation bankruptcy.
In the unfortunate event that an S Corporation
must file Chapter 7 or Chapter 11 bankruptcy,
the court will first decide if the S
Corporation still meets the requirements
for that status. Assuming it does, the
S corporation bankruptcy will continue.
A trustee appointed by the court may
decide that selling the company’s
assets is the best way to resolve its
problems. In that case, the individual
shareholders of the S corporation are
liable for any pass-through gains with
the understanding that they get no benefits
from the sale. Earnings from the sale
pay off creditors.
The IRS cannot tax any money the S Corporation
uses to get rid of debt. However the
sales earnings may change certain tax
exemptions like net operating losses.
Shareholder's Legal Responsibilities
with an S Corporation Bankruptcy
In short, owners filing an S corporation
bankruptcy will discover legal entanglements.
These can include pass-through income
and liabilities the individual shareholder
must take responsibility for. The bankruptcy
may involve a reorganization plan, an
insolvency contingent, a foreclosure
or similar legal actions. The court can
force any of these actions.
Since the S corporation and its shareholders
are not subject to double taxation, there
are certain tax effects that apply to
the shareholders. It takes much time
and effort to minimize the possibility
of undue tax burdens created by the S
corporation bankruptcy. A subchapter
S corporation bankruptcy has the disadvantage
of making shareholders liable for any
tax income generated after the bankruptcy
is filed. This is true whether the money
passes through to the shareholders or
not because the corporation is not a
taxable body.
Many owners select an S corporation
so they can pass-through profits and
losses directly to the shareholders.
This avoids the double taxation of an
ordinary corporation where the company
pays tax and then the shareholders pay
tax again on their profits. The S corporation
is limited in the amount of passive income
it can gain and the IRS tries to remove
pass-through profits paid in nontaxable
fringe benefits. S Corporation bankruptcy,
however, does not remove the shareholder
from the picture.
What
to consider when deciding on
business restructuring and chapter
11.
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