What is a Closely Held Corporation?

Closely Held Corporation
••• Closely Held Corporation. Radius Images/Getty Images

Most small corporations in the U.S. are closely held. What does "closely held" mean?

What is a Closely Held Corporation?

A closely held corporation, sometimes called a "close corporation,"  is a corporation in which more than half of the shares are held by just a few individuals. Inc.com says, "Over 90 percent of all businesses in the United States are closely held."

The IRS says that the requirements for a closely held corporation are:

  • Has more than 50% of the value of its outstanding stock owned (directly or indirectly) by 5 or fewer individuals at any time during the last half of the tax year; and
  • Is not a personal service corporation.

(A personal service corporation is owned by service professionals like physicians, architects, attorneys, and other similar professionals.)

A closely held corporation, by definition, is a private corporation. That is, its shares are not traded publicly.  In this case, if one of the shareholders wants to sell some or all of his/her shares, the sale must take place with one of the other existing shareholders, since no public sale of shares can take place. A closely held corporation  may be a private corporation, but a private corporation may or may not be closely held. 

Characteristics of a closely held corporation:

  • For small corporations with only a few shareholders
  • May be either a C corporation or an S corporation
  • Limits number of shares of stock (by state law)
  • Usually a family-run corporation
  • More informal operating structure, which allows decisions to be made without board of directors approval
  • The shareholders operate the business
  • The shareholders agreement describes how decisions are made and puts restrictions on the sale of stock.

    Benefits and Drawbacks of the Closely Held Corporation

    The major benefit of the close corporation is the less formal operation, saving time and paperwork. The major drawback of the close corporation is the limitation on number of shareholders (set by federal and state law) and the restriction against selling shares to the public.

    discussion of the close corporation (closely held corporation) from the Vermont Corporations Division website:

    A Close corporation makes sense when the shareholders are also the people who serve as the corporation's board of directors and corporate officers. In a Close corporation, all management decisions are made by the shareholders ... because they are typically the people who are in charge of running the business. While the Close corporation offers many advantages, it may not be appropriate for all start-up businesses, especially if the goal is to immediately build a business where shares of stock will be offered to the public. In that case, the standard "General" corporation may be the right choice.

    Closely Held Corporations and Taxes

    Closely held corporations have different, and more complex, tax rules for their owners. For example, passive activity rules apply to taxes on  owners of closely held corporations.

    Check with your professional tax advisor before making any decisions about taxes or setting up a closely held corporation. 

    For more information about federal income taxes and closely held corporations, see IRS Publication 542: Corporations.