Partnerships, S Corporations, and C Corporation taxes

When starting or running a business, the structure you choose can affect how your income is taxed and what forms you need to file. Partnerships, S corporations, and C corporations are three common business types, and each is taxed differently under federal law.

Understanding how these structures compare can help you see who pays the tax, how profits are reported, and what that means for business owners at tax time.

Partnerships

A partnership is an unincorporated business owned by two or more partners. Partnerships are pass‑through entities, which means the business itself doesn’t pay federal income tax. Instead, it reports income, deductions, and other tax items to the partners, who then report them on their personal tax returns.

Partnerships file Form 1065, U.S. Return of Partnership Income. Each partner receives a Schedule K‑1, which shows that partner’s share of income, losses, deductions, and credits. Partners use the information from Schedule K‑1 to complete their individual tax returns. Partners who actively work in the partnership are subject to self-employment tax. Partnership distributions to partners are generally not subject to tax up to the partners’ basis.

In some cases, a partner may be able to deduct a loss from the partnership. However, the amount of loss that can be deducted may be limited by tax rules such as:

• Basis limitations
• At risk limitations
• Passive activity loss rules

C corporations

C corporations are taxed differently than partnerships and S corporations. C corporations pay tax at the corporate level and file Form 1120.

When profits are distributed to shareholders as dividends (via Form 1099-DIV), those dividends are taxed again on the shareholders’ individual tax returns. This structure is often referred to as double taxation.

S corporations

An S corporation generally doesn’t pay federal income tax at the business level. Like partnerships, S corporations are pass‑through entities. Income, losses, deductions, and credits pass through to the shareholders.

S corporations file Form 1120S, which generates a Schedule K1 for each shareholder. The shareholders then report the information from their Schedule K1 on their personal tax returns. Unlike partnerships, S corporation shareholders who actively work in the business are not subject to self-employment tax but are expected to take a reasonable wage from the business. In contrast to C corporations, distributions to S corporation shareholders are generally not subject to tax up to shareholders’ basis.

Partnership and S Corporation tax forms and passive income

Schedule K‑1 is a tax reporting document that shows a business owner’s share of certain income, losses, deductions, and credits from a partnership or S corporation.

A Schedule K‑1 may include items such as:

• Investment income, including:
  • Interest
  • Dividends
  • Capital gains or losses
• Business income, which may be classified as passive or nonpassive
• Certain deductions and tax credits
• Distributions to partners and shareholders

Passive income and passive losses

Income and losses from partnerships and S corporations are generally classified as passive or nonpassive. This classification affects how—and whether—you can deduct losses.

Under the passive activity loss rules, passive losses generally can’t be used to offset nonpassive income, such as wages. Instead, passive losses can usually only offset passive income.

Passive income typically comes from:

• Trade or business activities in which you don’t materially participate, or
• Rental activities, unless you qualify as a real estate professional and meet specific IRS requirements

Have questions about partnership or S corporation Taxes?

Rely on our team of small business certified tax pros to get your taxes right and keep your business on track. Connect with us at blockadvisors.com.

Our small business tax professional certification is awarded by Block Advisors, a part of H&R Block, based upon successful completion of proprietary training. Our Block Advisors small business services are available at participating Block Advisors and H&R Block offices nationwide.

Corporation tax FAQs

How does corporate income tax work?

Corporate income tax applies to C corporations, which are treated as separate tax‑paying entities from their owners. Essentially, taxes apply to the entity and shareholders in a two-step process.  

1. First, the corporation pays federal income tax on its net income—generally, total income minus allowable business deductions.
2. After the corporation pays its tax, any profits distributed to shareholders as dividends may be taxed again on the shareholders’ individual tax returns.

How is corporate income tax calculated?

A corporation calculates its tax by determining its taxable income, which starts with gross income and subtracts from eligible business deductions such as wages, rent, and depreciation. The federal corporate income tax is then applied at a flat rate of 21% to that taxable income.

Corporations report this information and calculate their tax liability on IRS Form 1120. State corporate income taxes may also apply, depending on where the business operates.

How does corporate income tax differ from pass‑through taxation?

The key difference between corporate income vs. pass-through taxes is who pays the tax.

• With corporate income tax, the corporation itself pays tax on its profits, and shareholders may pay tax again when profits are distributed.
• With pass‑through taxation, the business does not pay federal income tax at the entity level. Instead, profits and losses “pass through” to the owners, who report them on their personal tax returns.

Pass‑through taxation generally applies to S corporations, partnerships, and sole proprietorships, and typically results in income being taxed only once at the individual level.