A corporation is a business entity that is formed by filing Articles of Incorporation with the Secretary of State. The Shareholders are the owners of the corporation. The Shareholders appoint the Board of Directors who then hire the Chief Executive Officer (CEO) and other officers of the corporation. The officers of the corporation have a fiduciary duty to the shareholder to maximize the shareholders’ profits.
Tax Consequences of a Corporation
Unless a corporation qualifies and elects to be an S-Corporation that allows for “pass-through” taxation, they are subject to what is known as “double taxation” or the shareholders are taxed on the earnings of their shares as well as any dividends paid by the corporation and the corporation is taxed on its net income.
See a CPA/tax consultant for tax ramifications of starting your business as a corporation.
Liability of Shareholders
The reason why corporations are the business entity of choice when it comes to large companies (who are often traded on a stock exchange i.e. public companies) is because the shareholders enjoy limited liability. This liability is limited to the amount invested in the corporation via the number of shares each shareholder owns.
However, there are instances when shareholders will be liable, this is called “piercing the corporate veil.” It is typically done only when the shareholders have used the corporate assets for personal use or to pay for their personal debt. Additionally, the corporate veil may be pierced when the corporation is undercapitalized and is unable to meet foreseeable liabilities. Finally, the corporate veil may be pierced to prevent fraud or when the corporation is used to avoid personal liabilities.
- Limited Liability
- Shareholders are generally not liable for the debts of the corporation.
- Shareholders are generally able to buy and sell stock relatively easily (unless securities laws prevent the sale).
- Equity capital is easier to obtain.
- Double Taxation
- Stockholders and the corporation are taxed on their respective earnings.
- Difficult to maintain
- Corporations are subject to “corporate formalities” which require compliance with a multitude of laws including local, state, and federal.