Types of Corporations
A close corporation is one whose shares are held by a single shareholder or a closely-knit group of shareholders.
Some characteristics of a close corporation include:
- Its shares are not sold to the general public.
- Its shares are not traded publicly.
- They are small businesses that, prior to incorporating, were sole proprietorships or partnerships and incorporated to get either limited liability protection or a tax advantage, or both.
- The statutes in many states have liberalized corporation law for close corporations.
- For example, allowing a one-person board of directors and eliminating the requirement for formal meetings. Check with your state.
Closely Held Corporation
The IRS defines a closely held corporation as a corporation that, in the last half of the tax year, has more than 50% of the value of its outstanding stock owned (directly or indirectly) by 5 or fewer individuals.
Generally, closely held corporations are subject to additional limitations in the tax treatment of items such as passive activity losses and at-risk rules, and compensation paid to corporate officers.
Personal Holding Company
A corporation is a personal holding company if both the following requirements are met:
- The Personal Holding Company Income Test
- The Stock Ownership Test.
The Personal Holding Company Income Test:
Under the personal holding company income test, at least 60% of the corporation's adjusted ordinary gross income for the tax year is from dividends, interest, rent, and royalties.
Stock Ownership Test:
At any time during the last half of the tax year, more than 50% in value of the corporation's outstanding stock is owned, directly or indirectly, by 5 or fewer individuals.
Statutory Close Corporation
Don't confuse this with the term close corporation discussed above. The term close corporation is generally used to refer to a corporation that is formed under the regular corporation statutes of a state but where the stock is not traded publicly on an exchange.
However, a statutory corporation is created under a supplemental state corporation statute. It is designed to eliminate some of the formality generally required in operating a corporation.
For example, shareholders may not have to actually meet annually, shareholders may operate the corporation according to a shareholder's agreement, a board of directors may be eliminated. The corporation may, in effect, be run similar to a limited liability company.
Check with your state to see if they allow this option for running your corporation. If not, you must follow the regular state corporation statutes.
This is a corporation established by private interests. Its purpose may be charitable and benevolent or for commerce.
- Its shares may be sold to the general public.
- Its shares may by publicly traded.
- When stock of a private corporation is sold to the public, it's called a public corporation (e.g., Microsoft, Google).
Personal Service Corporation
A qualified personal service corporation (QPSC) may be organized for the purpose of conducting personal services in the following fields:
- Actuarial Science
- Engineering (including surveying and mapping)
- Performing Arts
- Veterinary Services
A PSC is taxed at a flat rate of 35%. Of course if the shareholders take out all the profits in form of salaries and bonuses (provided they are considered reasonable according to standards within the profession), then there would be not federal income tax incurred by the PSC.
Domestic and Foreign Corporation
A corporation in the state where it is originally created is referred to as a domestic corporation with respect to that state. In every other state, the corporation is referred to as a foreign corporation.
For example, you incorporate your business in New York. It's a domestic corporation in New York. However, in all other states your New York corporation is considered a foreign corporation.
If you don't register your business in a state where you want to do business, you may not have the legal standing to enforce contracts in that state.
Nonprofit Corporation (eleemosynary corporations)
A nonprofit corporation is organized for charitable or benevolent purposes (e.g., hospitals, universities).
- Return to the Tax Basics for Startups Table of Contents to find related links.