How to Switch to a Sole Proprietorship Election Vs. an S Corp

by John Cromwell

    To transition from an S corporation to a sole proprietorship, which is a single-owner business entity, you must dissolve the corporation and notify your state and the Internal Revenue Service that you have elected to terminate your company’s status as an S corporation. Sole proprietor status is automatic and does not require additional filing. If you want to continue operating the business using a fictitious name, you will need to file a "doing business as" statement with the appropriate local agency.

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    Step 1

    Conduct a vote of the S corporation shareholders. For tax purposes, the business must secure the consent of shareholders who own more than 50 percent of the outstanding stock before it can dissolve its corporate status. So, if the corporation has 10 shareholders and two control 51 percent of the outstanding stock, the two shareholders can dissolve the S corporation by voting their majority shares.

    Step 2

    Prepare a termination statement for the IRS showing the number of shares issued and the number of shares outstanding. The statement should also show the number of issued and outstanding shares that each stockholder owned at the time the corporation elected to dissolve. Each consenting shareholder must sign the statement.

    Step 3

    Submit the termination statement to the IRS. The statement must be filed with the appropriate IRS office as per the instructions for IRS Form 2553. Refer to the "Where to File" section.

    Step 4

    File dissolution papers with the state agency that oversees corporations; typically, the Secretary of State. Because an S corporation is a federal tax designation that only applies to corporations and not sole proprietorships, the company will lose its corporate designation. Dissolution procedures vary from state to state. Using Illinois as an example, if you wanted to terminate a corporation, you would need to file articles of dissolution with the Illinois Secretary of State. This document states the number of shares that were outstanding and affirms that the dissolution was approved by a shareholder vote. The board of directors and an agent for the business must sign the document, and the business must pay a filing fee.

    Step 5

    File a "doing business as" statement with the appropriate county or state agency. The legal name of a sole proprietorship is the name of its owner, so if you want to operate the new business under a brand name or other fictitious name, you must file a DBA statement before you commence operations. Registration requirements vary by local jurisdiction, so review your state's requirements or consult with an attorney.

    Tips & Warnings

    • Dissolving an S corporation and converting the business to a sole proprietorship is a complex process and involves numerous legal and tax-related issues. A mistake or oversight could prove quite costly. Before proceeding, it would be prudent to consult with an attorney who specializes in corporate and tax law.

    About the Author

    John Cromwell specializes in financial, legal and small business issues. Cromwell holds a bachelor's and master's degree in accounting, as well as a Juris Doctor. He is currently a co-founder of two businesses.