While the S corporation generally is a tax reporter rather than a taxpayer,it may be subject to tax on built-in gains and on certain passive investment income.

Question

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While the S corporation itself does not generally pay income tax on its profits, it may be subject to tax on built-in gains (i.e. gains on assets that were appreciated in value before the corporation converted to S status) and on certain types of passive income, such as income from rentals or royalties. This is to prevent C corporations from converting to S corporations solely to avoid paying taxes on these types of income.

While the S Corporation Generally Is a Tax Reporter Rather