What are the key rules and filing tips for S Corporation tax compliance?

S Corporation (S‑corp) status changes how a small corporation is taxed: the corporation generally does not pay federal income tax, but it must file an annual information return (Form 1120‑S) and provide Schedule K‑1s to shareholders so they can report their shares of income, deductions and credits on their personal returns (see IRS S Corporations). These requirements carry deadlines, payroll obligations, basis limits, and documentation needs — get any of them wrong and you could face penalties, lost tax benefits or an audit.

Below I walk through the must‑know rules, a practical filing timeline, documentation and recordkeeping advice from my practice, and common pitfalls with links to additional FinHelp resources.

Authoritative sources: IRS — S Corporations (https://www.irs.gov/businesses/small-businesses-self-employed/s-corporations); Instructions for Form 1120‑S (https://www.irs.gov/pub/irs-pdf/i1120s.pdf).

Quick checklist (what to do every year)

  • File Form 1120‑S by the due date (generally March 15 for calendar‑year S‑corps). (IRS Form 1120‑S instructions)
  • Issue Schedule K‑1 (Form 1120‑S) to each shareholder and keep copies for the corporate file. (IRS Schedule K‑1 info)
  • Pay yourself a reasonable salary if you’re an owner‑employee, and remit payroll taxes (Social Security, Medicare, federal income tax withholding). The remaining profit can pass through as distributions.
  • Track shareholder stock and debt basis using Form 7203 when appropriate to document taxability of distributions and losses. (IRS Form 7203)
  • Keep meticulous books and supporting documentation for deductions and credits.

Important filing rules and dates

  • Form 1120‑S (U.S. Income Tax Return for an S Corporation) is generally due on the 15th day of the third month after the end of the corporation’s tax year — for a calendar‑year S‑corp that means March 15. You can file for an extension, but an extension of Form 1120‑S extends time to file the return, not to pay any tax or to provide K‑1s to shareholders who may need them for their individual returns (see Form 1120‑S instructions).

  • Form 2553 (Election by a Small Business Corporation) must be timely filed to be effective for the intended tax year. If you missed the deadline there is limited late relief available; see our guide on Form 2553 pitfalls for more detail.

  • Payroll reporting: if shareholders perform services, the S‑corp must treat shareholder‑employees as employees for payroll tax purposes and issue Form W‑2s and make required deposits. Failure to treat compensation properly is a frequent audit trigger.

  • State filings: in addition to federal filings, many states impose entity‑level taxes or franchise fees and have their own deadlines and rules. For example, some states collect franchise or entity taxes even when the federal tax passes through. Verify state requirements early in the year.

Reasonable compensation and payroll taxes

One of the most important compliance items is paying a reasonable salary to shareholder‑employees who provide services to the S‑corp. The IRS expects compensation to be comparable to what would be paid to someone else performing the same duties in the marketplace. Reasonable wages are subject to payroll taxes (Social Security and Medicare) and withholding.

Why this matters:

  • Underpaying wages and taking large distributions can attract IRS scrutiny and reclassification of distributions as wages, generating back payroll tax, penalties and interest.
  • Overpaying wages reduces the tax advantage of the S‑corp, so balance is key.

In my practice I recommend documenting how you determined compensation — a market comparison, job description, and board minutes or compensation resolutions — to support your position if questioned.

Basis, losses, and Form 7203

Shareholder ability to deduct S‑corp losses depends on their basis in stock and debt. The IRS requires shareholders to track basis to determine whether distributions are taxable and whether losses are deductible. Since 2021, Form 7203 (S Corporation Shareholder Stock and Debt Basis Limitations) helps shareholders report basis calculations and limitations. Keep a running basis worksheet showing contributions, distributions, share of income/loss, and loans.

Note: losses in excess of basis are suspended and carried forward until the shareholder has sufficient basis. Failure to track basis correctly can lead to overstated deductions and later adjustments.

Reference: IRS Form 7203 (https://www.irs.gov/forms-pubs/about-form-7203).

Schedule K‑1: timing and accuracy

Each shareholder must receive a Schedule K‑1 (Form 1120‑S) showing their share of income, credits and deductions. Shareholders use K‑1 information to prepare their personal returns. Mistakes or late K‑1s can cause shareholder returns to be filed late or inaccurately.

Tip: prepare K‑1 drafts early and reconcile book income to tax income. Use the reconciliation (Schedule M‑1/M‑3) disclosures on Form 1120‑S to explain differences between accounting and taxable income.

Resource: How to Use Schedule K‑1 for Partnerships and S Corporations (https://finhelp.io/glossary/how-to-use-schedule-k-1-for-partnerships-and-s-corporations/).

Recordkeeping and documentation best practices

  • Maintain separate bank accounts for the corporation; avoid personal transactions in corporate accounts.
  • Keep payroll records, W‑2s, payroll tax deposit receipts, and employment tax returns (Forms 940/941) for at least four years.
  • Save minutes of shareholder meetings or written consent that support key business decisions (compensation, distributions, major asset sales).
  • Retain receipts, contracts and supporting schedules for major deductions (e.g., business expenses, depreciation).

In my experience, organized records materially reduce the time and cost of tax preparation and materially lower audit risk.

Common mistakes and how to avoid them

  • Thinking S‑corps don’t file tax returns. They file Form 1120‑S and issue K‑1s to shareholders.
  • Not paying reasonable compensation or failing to run payroll for owner‑employees.
  • Ignoring state filing requirements and state franchise taxes.
  • Failing to track shareholder basis and using distributions as tax‑free when basis is insufficient.
  • Filing Form 2553 late without exploring relief options; see our Form 2553 pitfalls article (https://finhelp.io/glossary/filing-for-s-corporation-elective-relief-form-2553-pitfalls/).

Practical filing timeline (calendar‑year S‑corp)

  • January–February: close books for prior year, begin preparing Form 1120‑S; compile payroll W‑2s and Form 1099s if applicable.
  • March 15: file Form 1120‑S (or file Form 7004 to request an extension). Provide Schedule K‑1s to shareholders.
  • March–April: shareholders incorporate K‑1 items into individual returns (Form 1040). If the S‑corp requested an extension, shareholders may need K‑1s sooner — plan ahead.
  • Throughout year: run payroll correctly, make estimated tax payments if shareholders expect to owe tax on pass‑through income, and document major transactions.

When to get professional help

Get professional help if you:

  • Are unsure whether S‑corp election is still optimal for your business structure.
  • Have complex transactions (related‑party transactions, large losses, multiple investors or trusts as shareholders).
  • Need help documenting reasonable compensation or preparing basis worksheets.

A CPA or tax attorney can prepare payroll, reconcile book to tax, and support an audit defense. In my consulting engagements, proactive quarterly reviews reduced year‑end surprises and often saved clients more in tax and penalties than the advisory fees.

Additional resources

Further reading on FinHelp:

Professional disclaimer: This article is educational and reflects my professional experience. It is not personalized tax advice. Tax rules change and state laws vary; consult a qualified tax professional (CPA or tax attorney) for guidance specific to your situation.

If you’d like a brief checklist tailored to a calendar‑year S‑corp or help preparing Form 1120‑S and Schedule K‑1s, include your filing questions when you reach out to a pro.