How to Start an S Corporation in Texas

Taxes are one of the costliest expenses for small business owners. But did you know your tax designation directly affects how much you pay? 

You could reduce the amount of money you owe the IRS by starting an S Corporation. This guide will take you through the steps to set up an S Corporation in Texas for your business entity. 

S Corporations in Texas: Key Points

• A Texas LLC or C corporation can elect S corporation tax status through the IRS.

• S corp status provides significant tax savings, including pass-through taxation and lower self-employment tax.

• S corp status is generally best for small businesses, but not all companies qualify for this tax designation.

What Is an S Corporation?

An S corporation is not a formal business entity. It’s a tax designation that determines tax treatment, and the S refers to a subchapter within the IRS code. Eligible Texas companies can elect S corp status to avoid double taxation and save on self-employment taxes.

To start an S corp in Texas, a small business must first form a business structure, such as a limited liability company (LLC) or a C corporation.

Tax Considerations for an S Corporation in Texas

The shareholders of a company with S corp status report flow-through income and losses on their personal tax returns and pay taxes at their individual tax rates. This practice prevents double taxation, paying income tax on corporate and individual tax returns, resulting in a lower self-employment tax.

The S corp tax treatment is ideal for small business owners who take distributions with their salaries or wish to withdraw money from their company for personal use. You can file for S corp status with the IRS using Form 2553 or Election by a Small Business Corporation.[1]

Texas Tax Treatment of S Corporations

S corporations in Texas enjoy tax savings and personal asset protection benefits. Owners of LLCs and corporations can also reduce their self-employment tax by filing for S corp status.

Texas Franchise Tax for S Corporations 

S corporations are considered taxable entities and are therefore liable for paying the Texas franchise tax. According to the Texas Comptroller, S corps in Texas must also file a Franchise Tax Report and a Public Information Report or Ownership Information Report.[2]

Pass-Through Taxation

A company with pass-through taxation doesn’t pay taxes as an entity. Instead, the company’s income passes through to the business owner or owners, who then pay personal income tax on their share of the revenue.

With traditional corporations, including C corps and LLCs without S corp status, the company pays corporate taxes on money earned by the corporation. The owners then experience double taxation, as they are later taxed a second time when stocks or distributions are sold.

In addition to S corps, pass-through taxation in Texas applies to sole proprietorships and partnerships.

Requirements for Forming an S Corporation in Texas

Due to various restrictions, an S corp is generally best for small businesses. Some company types are not permitted to have S corp status, including insurance companies, banks, and credit unions, and not all businesses can qualify.

Before you apply, it’s essential to understand that owners of companies with S corp tax status are considered employees. This means they must receive a reasonable salary and run formal payroll for themselves and other employees. Therefore, the company must earn enough revenue to offset payroll costs.

A limited liability company and a C corporation in Texas can apply for S corporation designation if they meet the following IRS criteria:

• Be an eligible domestic LLC or corporation

• Have shareholders, which may be individuals, estates, and certain trusts, who are US citizens or resident aliens

• Make less than 95% of income from exports

• Have no more than 100 shareholders

• Have only one class of stock

• Submit shareholders’ consent to the status change

If a company with S corp status violates any of these rules, the business may forfeit its S corporation status and revert immediately to a C corporation.

The requirements for S corporation status can be confusing. Still, Swyft Filing’s online service helps ensure you understand the process and don’t miss a thing.

How to File as an S Corp in Texas in 7 Steps

You must form an LLC or C corporation before applying for an S corporation in Texas. Here, we break down exactly how to apply for this designation step-by-step. 

Step 1: Choose a Business Name

Choosing your business name is the first step in forming a business. You’ll want to pick a memorable name easily searchable by potential clients and describes the nature of your products or services. Additionally, you must follow these Texas naming regulations:

• You must include the phrase “limited liability company” or “LLC”

• You may not include any words that could mislead or confuse people into thinking your company is a government agency, such as the FBI or Treasury, or was created to perform illegal acts

• You can only use certain words, such as bank and university if you have appropriate accompanying paperwork from experts

• You cannot use a business name that is considered “grossly offensive”

Once you’ve chosen your perfect business name, it’s essential to double-check that it’s not already in use by another Texas business. Our free business name search makes it quick and easy to see if your name is available.

Many business owners also choose to trademark their business name to protect their brand identity. Trademarking prevents other businesses from using your exact or similar name and posing as your company. 

You can file for a federal name trademark with the United States Patent and Trademark Office (USPTO) to gain nationwide protection.[3] You can also apply for a state trademark with the Texas Secretary of State, but note that this only provides brand protection within the state.[4] 

Step 2: Appoint Directors and a Registered Agent

The Texas Business Organizations Code (BOC) requires companies to have at least one director, secretary, and president for their LLC or corporation.[5] If you opt for S corporation status, you must appoint a board of directors. 

A board of directors includes S corporation directors and shareholders. While the roles fulfill the Texas requirement, they also help keep your business on track by offering guidance and leadership.

All Texas businesses are also required to appoint a registered agent. A registered agent is an organization or person authorized to receive official documents for your business. These documents can include correspondence from the state and local governments and legal notices.

Texas registered agents must have a physical address, maintain regular business hours, and have their addresses on the public record. These are just some reasons why it’s often not advisable to serve as your own registered agent. Many small business owners choose to hire a third-party registered agent service instead.

If you’re interested in hiring a registered agent service, we can fulfill your registered agent needs while keeping your privacy and business safe.

Step 3: File Articles of Organization (Certificate of Formation)

The Certificate of Formation, or Articles of Organization, officially registers your business as an LLC or corporation with the state.

You must file your Certificate of Formation with the Texas Secretary of State and pay a $300 filing fee. You can file online or by mail by downloading and filling out the form.[6,7] Processing time is generally five to seven days for non-expedited items. Still, there can be delays due to increased demand. 

When filling out the Certificate of Formation, you will need the following information:

• Business entity name and type 

• Registered agent name and address

• Governing authority type 

• Business purpose

• The business address for franchise tax correspondence  

Step 4: Create an S Corp Operating Agreement

Texas law doesn’t require an operating agreement, but it’s highly recommended. This legal document governs your company, details expectations, and helps ensure smooth business operations. 

An operating agreement should outline the business owners’ and managers’ duties and responsibilities, spell out financial rules, and detail operational decision-making requirements. More importantly, it should specify any potential future developments, including what should occur if you dissolve the company. 

Here is a complete list of what to include in your operating agreement:

• Members and their ownership percentages

• Member rights and responsibilities

• Member shares of profits and losses

• Management structure

• Process for amendments 

• Rules following a member’s death or leave

• Rules and procedures for buying in and selling out

• Rules on the distribution of assets if the company dissolves

Texas law also requires initial corporate bylaws.[8] These outline the company’s procedures and serve as a legal contract between all members. You don’t need to file these documents with the Secretary of State, but you must keep them on hand.  

Step 5: Apply for an Employer Identification Number

You must obtain an Employer Identification Number (EIN) from the IRS before opening a bank account, hiring employees, and collecting revenue. An EIN is a nine-digit number similar to a social security number that helps the IRS identify your business and levy income and employment taxes. 

You can apply for a free EIN on the IRS website.[9] If you prefer to skip the hassle, we can obtain your EIN for free.

Step 6: File Form 2553 for S Corporation Election

The final and most crucial step is filing Form 2553, or Election by a Small Business Corporation.[10] This is how you make an election for S corp status as a small business entity.

Form 2553 requires the following information:

• EIN

• Incorporation date

• Incorporation state

• S corporation election date

• Tax year selection

• Indication on whether family members are one shareholder

• Contact information

• Name and address of shareholders

• Percentage of stock owned by shareholders

• Fiscal year selection

• Signatures

You must file form 2553 during one of the below periods:

• Within 75 days of your company’s formation

• Anytime the year before the selected tax year

• Less than 75 days after the beginning of the tax year chosen

If you miss the deadline for filing form 2553, you will also need to file Form 8832, or Entity Classification Election, to be taxed as a corporation.[11]

Texas S Corp vs. Texas LLC

S corporations have advantages and disadvantages, so it isn’t always the best choice for every business. You may find that an LLC is a better tax solution for your business model. 

To help you decide, we’ve summarized the pros and cons of each and the additional benefits offered by S corp status. 

Advantages of Starting an LLC in Texas

Compared to other corporate structures, an LLC is straightforward, easy to maintain, and offers flexible management. This business structure also protects personal assets, meaning your assets aren’t in jeopardy if your company is sued or accrues non-repayable debt. 

Unlike C corporations that experience double taxation, LLCs have the advantage of pass-through taxation. Your company profits are taxed on your and other members’ personal tax returns, which leads to a streamlined and simplified tax treatment. 

If you want to finish your business creation journey as an LLC, we make it easy to file online in minutes.

Disadvantages of Starting an LLC in Texas

While sole proprietorships and general partnerships have no registration requirements or fees, it costs $300 to register an LLC in Texas. All Texas LLCs must also have a registered agent and pay sales tax and the Texas franchise tax. 

LLCs are also subject to self-employment tax. This occurs as profits pass through to the shareholders’ personal tax returns, where they must pay self-employment and personal income tax on that amount.

Advantages of forming an S Corporation in Texas

S corporations enjoy similar benefits to LLCs, including being easy to maintain and offering personal asset protection. The main advantage is their unique tax treatment. 

An S corp benefits from pass-through taxation, but shareholders pay self-employment and personal income tax on a reasonable salary rather than the entire amount. Any remaining profits are not subject to self-employment taxes and can be withdrawn as a distribution.

Disadvantages of forming an S Corporation in Texas

S Corporations are limited to 100 shareholders, so there may be better options if you plan to expand quickly. Additionally, only US citizens, estates, or certain trusts qualify as shareholders, which could impose a limit if you wish to expand internationally. 

It’s important to note that S corps can only offer one class of stock. Given the additional tax benefits, the IRS tends to watch such companies more closely to ensure they remain compliant. This can mean a greater chance of being audited.

Get the Legal Benefits of an LLC with the Tax Benefits of an S Corp

Many business owners choose to incorporate as an LLC for personal asset protection and stop there. But by electing to form an S corporation, you can combine the legal advantages of an LLC with the unique tax benefits offered by an S corporation. It’s a win-win solution to save a great deal of money.

Ready to File for S Corp Status in Texas?

If you decide to file for an S corporation in Texas, we can help. As a small business formation services leader, our company offers expert advice from specialists well-versed in S corp tax status. It’s quick and easy, and we’ll help every step of the way.

Frequently Asked Questions

What is an S Corporation in Texas?

An S corporation is a business entity formed through an IRS tax election. Eligible companies can elect S corp tax status and avoid double taxation. All company shareholders report flow-through losses and income on their personal tax returns and are assessed at individual tax rates, often resulting in lower taxes.

Does Texas recognize S corporations?

Yes, Texas recognizes S corporations that follow the rules associated with the tax designation.

What is the turnaround time for filing for S corp status with the IRS?

According to the IRS, a company should receive a determination on whether their election for S corp status is approved 60 days after filing Form 2553.

What is the difference between an S corp and an LLC?

While both types of corporations experience flow-through income and losses on their personal tax returns, S corps offer more significant tax savings. S corp shareholders pay self-employment and personal income tax on a reasonable salary. Any remaining profits are not subject to self-employment taxes and can be withdrawn as a distribution.

What are the requirements for an S corporation in Texas?

To qualify for an S corporation in Texas, a company must meet the following IRS criteria:

• Be an eligible domestic LLC or corporation

• Have shareholders, which may be individuals, estates, and certain trusts, who are US citizens or resident aliens

• Make less than 95% of income from exports

• Have no more than 100 shareholders

• Have only one class of stock

Are taxes for LLCs and S corps the same?

LLCs and S corporations pay taxes on their personal tax returns, but S corporations generally experience significantly more tax savings. LLC owners pay self-employment and personal income tax on the entire amount earned. In contrast, S corporation owners only pay tax on a reasonable salary. Any remaining profits can be distributed with no additional tax.

What is the S corp tax rate?

The S corp tax rate is based on owner and shareholder personal tax rates, which run between 10% to 37%.[12]

How do I dissolve an S corporation in Texas?

After completing your final business transactions, you must submit two signed copies of a certificate of termination through the Texas Secretary of State. You must also include a Certificate of Account Status for Dissolution/Termination from the Texas Comptroller and pay a filing fee.

Bibliography

1. Internal Revenue Service. “About Form 2553, Election by a Small Business Corporation.”  Accessed December 19, 2022.

2. Texas Comptroller. “Franchise Tax Overview.” Accessed December 19, 2022.

3. United States Patent and Trademark Office. “Trademark basics.” Accessed December 20, 2022.

4. Texas Secretary of State. “Trademark Forms.” Accessed December 20, 2022.

5. Texas Secretary of State. “Management and Ownership FAQs.” Accessed December 20, 2022.

6. Texas Secretary of State. “SOS Direct.” Accessed December 20, 2022.

7. Texas Secretary of State. “Form 205—General Information.” Accessed December 20, 2022.

8. Texas Government. “Business Organizations Code.” Accessed December 20, 2022.

9. Internal Revenue Service. “Apply for an Employer Identification Number (EIN) Online.” Accessed December 21, 2022.

10. Internal Revenue Service. “About Form 2553, Election by a Small Business Corporation.” Accessed December 21, 2022.

11. Internal Revenue Service. “Form 8832.” Accessed December 21, 2022.

12. Internal Revenue Service. “IRS provides tax inflation adjustments for tax year 2022.” Accessed December 21, 2022.