Louisiana Contractors License Practice Exam

What distinguishes an S Corporation from a traditional C Corporation?

1. It has no limited liability for owners.

2. It is limited to a single state for incorporation.

3. It avoids double taxation by passing earnings through to shareholders.

4. It cannot issue any stock.

The correct answer is: It avoids double taxation by passing earnings through to shareholders.

The distinguishing feature of an S Corporation is its ability to avoid double taxation by passing earnings directly through to shareholders, which is reflected in the selected answer. Unlike a traditional C Corporation, which is taxed at the corporate level and then again at the individual level when dividends are distributed to shareholders, an S Corporation allows profits (and losses) to be reported on the individual tax returns of the shareholders. This means that the company itself does not pay federal income taxes; instead, the tax responsibility is passed on, resulting in only a single level of taxation. This structure is particularly beneficial for small businesses and can help shareholders manage their tax burden more effectively. The S Corporation status does come with specific eligibility requirements, such as having a limited number of shareholders and adhering to certain regulations, but its main advantage lies in the tax treatment of its earnings. The other options do not accurately capture the essence of the differences between S Corporations and C Corporations. For example, S Corporations still provide limited liability protection to their owners, can be incorporated in any state, and are allowed to issue stock, although there are restrictions on the types of stock they can issue.