1. What is a S-Corp Holding Company?

What is a S-Corp Holding Company?

Author: Real Estate Holding Company

Published Jul 18th, 2023Updated Feb 14th, 2024
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Holding companies are separate business entities set up as either a corporation, LLC, or limited partnership. Holding companies do not have a purpose of business, such as producing goods or services. Instead, these companies own enough stock in another company that allows them to exercise control over its management and direction.

This might include a portfolio of marketable securities. Forming a holding company provides a reduced risk, flexibility, asset protection, and tax benefits.

What is an S Corp?

S corps are corporations that have filled to elect a specific tax status. This is filed with the state and IRS. This special elected status allows your corporation to be viewed as a sole proprietorship or disregarded entity for tax purposes. In every other sense, an S-corp is treated as a corporation. Despite this, not every corporation may form as an S-corp, there are specific requirements that business and organizations must follow to be considered.

How S-Corp’s Can Utilize Holding Companies

All types of corporations have used holding companies to maximize profits and protect their companies. Here are two of the most common ways holding companies are used in business today.

Tax Free Profits

Holding companies are most often between the owner of a company and the active operating business. This allows the business’s profits to flow up tax-free to the owner. This is usually done through dividends and to be retained in the holding company. This will only be removed from the holding company until the business owner needs the money.

Hold Investments

Another common use of a holding company is to hold investments. Those investments can be marketable securities or something such as a portfolio of rental properties. The income generated from these investments will be held in the holding company until the owner (or owners) needs to cash out. Then paid out as a dividend to the owner.

Can an S Corp Own an LLC?

As an S corp holding company, you can hold assets and act as a separate entity. Meaning that if you form your holding company as an S-corp, you can own an LLC. The owners of LLCs are called members, and they can either be individuals or legal entities. There are a few ways to own an LLC, but one of those ways is by forming a holding company.

In order for a corporation to file as an S corp, there are a few specific rules that apply.

  • The company shareholders must be individuals, tax-exempt organizations, trusts, or estates
  • Individual shareholders must be citizens or residents of the United States
  • Shareholders cannot be business entities such as LLCs or corporations

Forming a Holding Company as an LLC with S Corp Taxation

When forming a holding company as an LLC with S corp taxation, you are stepping into a world of possibilities. All members of LLCs are owners, not employees. LLC members can never be employees, and they are not paid a salary. Instead, LLC members (owners) are paid distributions.

When an LLC chooses S-corp taxation, it provides the opportunity to be paid both a salary and distributions. This is a huge gain because these two forms of income are taxed differently.

Single-member LLCs are taxed by default as a disregarded entity. Despite this, it means that money passes through the LLC directly to you. You cannot be an employee of your own company, and you can only receive income as a “distribution.” This distribution is subject to both employment tax and income tax. It is different when it comes to a multi-member LLC, although for a standard LLC that is taxed as a partnership, the taxes will work the same way.

When LLCs choose to be taxed as an S-corporation, the members can be employees. Then this income can be paid as a salary and a distribution. Although the salary will be subject to both employment tax and income tax, the distribution will then only be subject to income tax. This is how filing as an S-corp can save money.

Employment tax is usually around 15%, but can be limited when the rest of your income is paid in the form of distribution, and only subject to income tax. This leads to the main benefit of s-corp status being to avoid paying self-employment tax on distributions.

Why Form as a Holding Company With S Corp Taxation?

Operating as an S-corporation will allow you to limit the amount of employment taxes that are typically required. The main downside to filing as an s-corp is that there are a lot of formalities. LLCs allow a lot more flexibility when it comes to structuring, but an s-corp must hold annual meetings of the board of directors, record corporate minutes, and have a separation of funds.

Typically this is why a lot of business wonders choose to operate as a single-member LLC, rather than s-corp. The other issue with forming a single-member LLC is that it is a disregarded entity for tax purposes. This means that the sole member is required to report all business on their personal tax returns. This is usually subject to both income and employment taxes.

Most often an LLC is the best choice for forming a business because of its simplicity, but an S-corporation is better in terms of tax advantages. The only solution to this disadvantage is to form an LLC and then elect s-corp taxation. This will be elected instead of a disregarded entity for federal income tax purposes. It provides the best of both worlds for man LLC, but also an s-corporation. You get the simplicity of an LLC with the tax advantages of an S-corp.

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