The following excerpt is from The Corporation Handbook.
A corporation generally has to file returns and pay taxes to the federal government, to its state of incorporation, and to those states and localities in which it transacts business. Corporations may also be responsible for collecting certain taxes paid by others and for remitting the amounts collected to the government. Failure to comply with reporting or taxation requirements can result in penalties ranging from interest and fines to the loss of the corporation’s right to exist or do business in the state imposing the requirement.
There are many different tax and reporting requirements a corporation may be subject to, including the following.
Federal corporate income tax
There are two types of corporations for federal income tax purposes—“Subchapter C” or “C corporations” and “Subchapter S” or “S corporations.” A C corporation must file a federal tax return and pay federal taxes on income it earned. A C corporation is subject to double taxation as not only is the income received by the corporation taxed at the corporate level, any profit that is distributed to the shareholders in the form of dividends is taxed again as personal income.
An S corporation does not have to pay corporate income taxes. Instead, its income and expenses are divided among and passed through to its shareholders, who must then report the income and expenses on their own tax returns.
In order to qualify as an S corporation, a corporation has to meet various restrictions found in the tax law. The election of S corporation status is made by filing a form with the Internal Revenue Service. All of the corporation’s shareholders must consent to the election.
Withholding and FICA
A corporation that has employees is generally required to withhold federal income tax from its employees’ wages. The Federal Insurance Contributions Act (FICA) commonly referred to as “social security,” requires both employers and employees to contribute a stated percentage of wages paid in order to provide old age, medical, survivors and disability benefits to employees. The employee portion must be withheld by the employer corporation from each payment of taxable wages until a designated amount of taxable wages has been reached. Corporate employers must file returns and deposit the withheld income tax and the FICA tax with an authorized commercial bank depository or a Federal Reserve bank. The corporation is also required to annually furnish each employee with a statement of wages paid and taxes withheld during the previous calendar year.
A corporation employing people in states with an income tax must withhold tax from its employees’ wages and similarly remit such withheld taxes to the state.
Franchise tax
In many states a corporation is subject to special taxation by reason of its status as a corporation. This kind of tax is called a franchise tax. It is a privilege tax levied upon the corporation’s right to do business as a corporation.
In some states this tax may be referred to by another name, such as a license tax, an excise tax, or a registration fee. Whatever the name given the tax, its essence remains the same—it is a tax levied on a privilege granted by the state, and not on the actual exercise of that privilege.
A corporation’s capital or income is used by many states as the franchise tax base. In imposing the franchise tax on a domestic corporation, a state may include the corporation’s entire capital stock or income, even if the corporation is engaged in business and employing its capital (or earning its income) primarily in a foreign state. However, state franchise tax laws provide for the allocation and apportionment of the tax base of foreign corporations engaged in interstate commerce. The purpose of allocation and apportionment is to determine the extent of the corporation’s business in the state, and on that basis, determine the state’s constitutionally taxable share.
The failure to pay a state’s franchise tax in a timely manner may subject the corporation to severe penalties including the loss of its right to exist or do business in the state.
State corporate income tax
State corporate income taxes are similar to federal corporate income taxes. In fact it is not unusual for state tax laws to contain direct references to the Internal Revenue Code.
State corporate income taxes are generally net income taxes. Net income is that portion of the corporation’s gross income that is subject to taxation. It is calculated by starting with the corporation’s federal taxable income and then making statutory additions, subtractions, and modifications.
A state may tax a corporation in a reasonable relation to the business activity the corporation transacted within the state. A corporation will automatically be subject to the state income tax of its state of incorporation, if it does business in or has income derived from that state. If the corporation then does business in foreign states, those states may tax the corporation’s income in relation to the business transacted there.
Property tax
A corporation, like an individual or any other business entity, is subject to property taxation. Property taxes are levied upon the ownership or use of property or upon the property itself. Its measure is the value of the property taxed.
There are three types of property that may be taxed—real property, tangible personal property, and intangible personal property. Real property may be broadly defined as land and any buildings, structures, improvements or other fixtures on the land. Tangible personal property means any tangible thing that is subject to ownership (usually other than money) and not a part of any real property. Intangible personal property is that personal property not valuable in and of itself, but representing a particular value, including such things as notes, bonds, stocks, and other monetary obligations. Real property is taxed in all states. Many states tax tangible personal property. Fewer states also tax intangible personal property.
Sales and use tax
Most states have sales and use taxes. These are taxes imposed upon the gross amount involved in certain transactions. Sales taxes are primarily imposed on the retail sale of various types of tangible personal property. Several states also impose sales taxes on rentals, sales of services, admissions to sporting or entertainment events, and other transactions.
Use taxes are imposed upon the use, storage, or consumption of tangible personal property not subject to the sales tax. The use tax rate is always the same as the sales tax rate.
Sales and use taxes, in general, must be paid by the consumer. However, it is the retailer’s responsibility to collect the tax and remit the amount collected to the state. Retailers are generally required to obtain a license or permit before doing business in the state.
Annual corporate report
In almost every state, a business corporation must file a report with the Corporation Department. In most states the report is due annually. However, in some states the report has to be filed every two years.
The purpose of this corporate report is to provide the Corporation Department with up-to-date information about the corporation’s affairs and finances. In many instances it is used to allow the state to determine and assess the proper amount of franchise taxes payable by the corporation.
The report may be required to include information such as: (1) the name of the corporation, (2) its state of incorporation, (3) a brief description of the business in which the corporation is engaged in the state, (4) the names and addresses of the corporation’s directors and officers, (5) the address of the registered office and the name of the registered agent at that address, and (6) statements as to the number of the corporation’s authorized and issued shares.
A corporation may be involuntarily dissolved if it fails to file its annual report in its state of incorporation. It may also have its certificate of authority revoked if it fails to file in a state where it is qualified as a foreign corporation.
For a full overview of corporation-related topics, such as corporate structure and how corporations raise capital, plus explanations of terms used in corporations, download our comprehensive guide, The Corporation Handbook.