Corporations are taxed on one of two ways, depending on the type of corporation that has been structured. A “C Corporation,” also known as a standard business corporation, is an entity that is taxed separately from its owners. Dividends that are passed on to shareholders of the corporation are also taxable, thus meaning that income received by a corporation may be taxed twice. Another type of corporation, known as an “S Corporation” is considered to be a “pass-through” entity with respect to taxation. That is, the corporation itself is not taxed, and profits and losses are passed down as income or losses to the owners of the corporation. An S Corporation is taxed in a manner similar to a partnership, which is also treated as a pass-through entity.
When new forms of business entities began to emerge in the 1990s, taxation of the entity was a major consideration. Limited partnerships and limited liability partnerships were easily classified as passthrough entities. However, the Internal Revenue Service (IRS) had some difficulty in determining how an LLC should be taxed. Under regulations that existed prior to 1997, if an LLC was operated in a manner more similar to a C Corporation, then the LLC was taxed as a corporation. However, the IRS changed its regulations in 1997 to allow an LLC to select how it should be taxed. Since the passage of those regulations, LLCs have been free to operate in a manner similar to corporations, but these LLCs may elect to be taxed like partnerships.