C-Corporation Tax Treatment
The default federal tax treatment of a corporation under Subchapter C of the Internal Revenue Code. The corporation pays entity-level income tax at the 21% federal rate; shareholders pay a second tax on dividends and capital gains. The "double taxation" structure that S-corp election or LLC pass-through treatment is designed to avoid.
C-corporation tax treatment is the default federal tax regime for corporations under Subchapter C of the Internal Revenue Code (IRC §§ 301-385). The corporation pays entity-level federal income tax on its taxable income at the 21% rate set by the Tax Cuts and Jobs Act of 2017. Shareholders pay a second layer of tax on dividends received and on capital gains realized when shares are sold. This "double taxation" structure is the principal reason most closely-held businesses elect S-corporation status or operate as LLCs treated as partnerships for federal tax purposes.
Two layers of tax
At the entity level, the corporation pays 21% federal income tax on taxable income (net of deductible expenses). When the corporation distributes after-tax earnings as dividends, individual shareholders pay tax on those dividends at preferential rates of 0%, 15%, or 20% depending on income level (qualified dividends), or at ordinary rates (non-qualified). When shareholders sell their shares at a gain, they pay capital gains tax at 0%, 15%, or 20%. Combined effective rates on distributed earnings approach 36%-39% for top-bracket shareholders.
When C-corp is the right answer
Despite the double-tax burden, C-corporation status is preferred or required for: (1) businesses planning to seek venture capital, most institutional investors require C-corp structure due to fund partnership tax constraints; (2) businesses with foreign or institutional shareholders not eligible to hold S-corp shares; (3) businesses planning to retain and reinvest earnings rather than distribute; (4) businesses qualifying for the Section 1202 Qualified Small Business Stock exclusion; (5) businesses with multiple classes of stock having different economic rights; and (6) larger ownership groups exceeding the S-corp 100-shareholder cap.
Texas dimensions
Texas does not impose a state corporate income tax, its franchise tax is a margin-based privilege tax separate from federal income tax classification. A C-corporation operating in Texas pays federal income tax at 21% plus Texas franchise tax (0.75% standard / 0.375% retail-wholesale) on margin above the no-tax-due threshold. The absence of state-level double taxation makes Texas a comparatively favorable C-corp domicile relative to high-income-tax states.
Section 1202, the C-corp founder advantage
Section 1202 provides a substantial federal capital gains exclusion (potentially 100%) for founders of C-corporations meeting specified Qualified Small Business Stock criteria, provided shares are held for at least five years. This benefit is unavailable to S-corps, LLCs, or partnerships. For founders building toward an exit, the Section 1202 exclusion can outweigh the ongoing double-tax cost. See Section 1202 / Qualified Small Business Stock.
The choice between C-corp and pass-through tax treatment is a foundational decision that should be revisited at each major corporate event, financing rounds, owner additions, acquisition discussions. The 21% C-corp rate and Section 1202 changed the calculus that prevailed before 2018; many founders previously defaulted to LLCs who today should be evaluating C-corp structure for the QSBS optionality. A reasoned tax decision should be documented in the corporate record at formation.