Congrats on setting up an S-Corporation for your business!
Many of my clients with new S-Corporations often ask me if stock certificates are required for their business. If you’re also wondering about this requirement, come along as I explain everything you need to know about stock certificates for S-Corporations.
What are stock certificates?
Let’s start with the basics and define what stock certificates are. In the past, stock certificates were physical documents that showed who held ownership in a corporation. These certificates usually included details about each shareholder, such as their name and the number of shares they owned.
It was also often required that the physical stock certificate had an official company seal. Shareholders could prove ownership by showing their certificate, and they could also transfer ownership by signing the back of the certificate and giving or selling it to someone else.
In our current business world, however, most corporations no longer issue physical stock certificates. That’s because technology has changed how stock certificates are issued, used, traded, and transferred. Companies now maintain ownership records electronically rather than issuing paper certificates.
Even though the look and feel of a stock certificate has evolved, a stock certificate means that whoever holds or owns that certificate owns a stake in the company. The more stocks a person holds, the higher their ownership percentage in the company.
Are stock certificates required for S-Corporations?
You probably already picked up on this, but the answer is no, stock certificates are no longer required for S-Corporations. The Internal Revenue Code (IRC) and state laws no longer mandate the use of stock certificates for S-Corporations.
Since issuing physical stock certificates is no longer required, most S-Corporation owners, especially small business owners, choose to keep track of their company’s shares electronically. S-Corp owners often find that using digital stock certificates and keeping digital records is more efficient, cost-effective, and provides more flexibility.
It’s important to note that although the IRS doesn’t require physical stock certificates, the IRS and other regulatory agencies now emphasize the importance of a corporation maintaining accurate and detailed records about the corporation’s ownership. This can be done through the corporation’s stock ledger and other electronic records.
To avoid problems with the IRS and other government entities, you should always make sure you’re complying with all applicable federal and state laws and that you maintain clear and accurate records of ownership.
Who can’t own stock in an S-Corporation?
Don’t forget that in order to maintain your S-Corp status:
- You can only issue stocks to individuals, certain trusts, and estates (not C-Corporations or LLCs),
- All of your shareholders must be U.S. citizens or legal residents, and
- You cannot have more than 100 shareholders.
Can I issue physical stock certificates?
Yep! If you want to go old school and issue physical stock certificates for whatever reason, then you are totally within your rights to do so. There are still printing companies that will make paper stock certificates for you. Some companies will even create official company seals if that’s something you’re interested in having. You can also create your own!
When purchasing or creating stock certificates for your S-Corporation, you’ll want to include this information:
- Business name
- Date when the business was incorporated
- Name of stockholder
- Date stock was issued
- Number of stocks the stockholder owns
- A stock certificate number (this should also be recorded in the stock ledger)
How do I issue stock certificates?
Regardless of whether you choose to issue stocks electronically or provide physical certificates, the steps for issuing the stock certificates and maintaining a stock ledger are the same. So what does that look like?
Step 1: Seek Authorization with Your S-Corporation’s Board of Directors
The first step in the process is that your corporation’s board of directors must authorize the issuance of stock certificates. This authorization should include determining how many shares will be issued as well as setting terms or conditions such as rules about how stocks can be transferred.
The number of shares an S-Corporation issues must match what is outlined in the company’s Articles of Incorporation that were filed with the state. You should also consider not issuing all shares in your S-Corporation so that you have open shares to issue down the road as your company grows or as you begin to attract investors.
Just remember that an S-Corporation can only have a maximum of 100 shareholders in order to keep its S-Corporation status! The only IRS exception to this is that certain family members are allowed to count as one person/shareholder. This exception includes spouses, children, grandchildren, grandparents, and a whole host of other family members with a “common ancestor” up to six generations back.
Step 2: Use a Stock Ledger to Track Your S-Corporation’s Stocks
Next, to issue or transfer shares, S-Corporations typically use a secure electronic stock ledger. In simple terms, this is usually just an Excel file that lists all of the shareholder names along with some basic personal information like phone number, address, and email address. Of course, you’ll also include the number of shares each shareholder owns. It’s important that you update the ledger as needed to maintain a real-time record of all shareholder transactions.
Step 3: Confirm Ownership for Each of Your S-Corporation’s Shareholders
Next, if you’re issuing electronic shares, once stocks are issued or transferred, you’ll want to send out a notice (email is fine) to shareholders in order to confirm their ownership in the company.
Of course, if you’re issuing physical stock certificates, then the certificate itself will confirm ownership for those shareholders.
What are classes of stock?
To understand classes of stock, you can think about it like the classes on an airplane. You know that whether you fly first class, business class, or economy class, you’ll all end up at the same place, but the perks that each class has pre-flight and in-flight are different.
It’s the same with classes of stock. Large, publicly-traded corporations often have Class A, Class B, and Class C shares. This means that although each share, no matter its label, essentially is worth the same amount in terms of percentage of the company, the shareholder who owns that share may have more or less “perks.”
Typically, the perks that are tied to classes of stock have to do with voting rights in the company. For example, someone who holds Class A shares may get one vote per share while someone with Class B shares may get 100 votes per share (read: Class B shareholders’ votes count more in this example).
Can I have classes of stock for my S-Corporation?
Technically, S-Corporations can only have one class of stock. However, even though there’s only one class allowed, an S-Corporation can decide that some of its stocks come with voting rights and some do not. This is true even if only 1% of the company’s stock comes with voting rights.
How do I transfer S-Corporation stock?
Because most S-Corporations and their shares are privately-owned and not publicly traded, it’s relatively simple to transfer stocks as long as your company doesn’t have rules about selling or transferring stocks in the Articles of Incorporation or company bylaws.
If there aren’t any restrictions set forth in company documents, then a stock owner can typically sell or transfer their shares to someone else. It’s probably a good idea to consult a business attorney to ensure that you don’t need any special contracts or paperwork to make the transfer legal.
Additionally, stock is sometimes transferred due to a shareholder’s death. Again, there may be restrictions to this in a company’s Articles of Incorporation or bylaws, so even if stocks are included in an estate, it’s best to consult legal counsel if there are questions about these types of stock certificate transfers.
Abridged by Amy
Even though stock certificates are not mandatory for S-Corporations, it’s very important that you keep a stock ledger and complete records of who holds shares in your company (even if that’s just you!).
When issuing stocks, make sure that your S-Corporation follows all of the rules set out in your Articles of Incorporation and bylaws. And don’t put your S-Corp election in jeopardy by not following the IRS guidelines for the number of S-Corp shareholders and rules about who can legally hold those shares.
I’ve spent a lot of time answering questions for S-Corp owners on my blog. You can take advantage of this free information right now:
