LLC vs S Corp: Benefits and Differences, which is better for your business?

You've most likely seen the S Corp vs. LLC comparison more than once if you're launching your own company. Making this decision isn't just a difficult legal formality it's one of the first important decisions that may impact your taxes, liabilities, and even your take-home pay. Knowing the difference between an LLC and a S Corp can help you get off to a good start, whether you're starting an online business, freelancing, or creating something larger.

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LLC vs S Corp?

An LLC, or Limited Liability Company, is a legal structure used to form a business. It gives the owner personal liability protection while keeping things flexible and simple to manage. An S Corp, on the other hand, isn’t a type of business structure it’s a tax status. That means it’s a way a business chooses to be taxed, not how it’s set up legally.

In many cases, a business can start as an LLC and later choose to be taxed as an S Corp to take advantage of certain tax benefits. So while it sounds like these are two different types of businesses, it’s really about how the profits are handled and how taxes are paid. 

Read more about sole proprietorship taxes

What Is an LLC?

Limited Liability Companies, or LLCs, are an easy and adaptable way to launch a business. Because it provides strong protection without a lot of hassle, it's one of the most popular options for small business owners.

Your personal assets, such as your house, vehicle, or savings, are typically safeguarded when you form an LLC in case something goes wrong with the company. Therefore, you won't lose everything you own if your company is sued or has debt.

LLCs are also simple to run. Unlike corporations, you are not subject to a plethora of formal regulations. Generally speaking, you won't also require a separate business tax return. Unless you choose to be taxed differently, the profits simply "pass through" to your personal tax return.

You can operate an LLC with other people as partners (referred to as members) or alone (referred to as a single-member LLC). Additionally, you can decide whether you want your business to be treated by the IRS as a partnership, sole proprietorship, or even a S Corp if that is more convenient for you.

All things considered, an LLC is a wise place for many business owners to start since it combines simplicity, freedom, and protection.

What Is an S Corp?

An S Corp is not a business structure it’s a special tax status you can choose after forming an LLC or corporation. You just file Form 2553 with the IRS to make it official. This setup lets business owners save money by reducing how much they pay in self-employment taxes. Instead of paying taxes on the entire profit, only your salary gets taxed that way, and the rest is treated differently. It’s a smart move for businesses that are starting to earn steady income.

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Comparing LLC & S Corp

S Corp & LLC Key Differences

When choosing between an S Corp vs LLC, it helps to look at the real-life stuff that affects how you run your business. These two options may seem similar, but they handle some important things differently like how you're taxed, who can own the business, how flexible things are, and how much work and cost are involved.

1. Taxes

With a regular LLC, all the money your business earns goes straight to you, and you pay income tax plus self-employment tax (around 15.3%) on the full amount. So if your business makes $100,000 in profit, you're paying taxes on the whole $100,000.

But if you choose to be taxed as an S Corp, things work a little differently. You pay yourself a reasonable salary, and the rest of the profit can be taken as distributions. The big benefit is you only pay self-employment tax on your salary not on the full profit.

For example, if you pay yourself $60,000 in salary and take $40,000 as a distribution, you avoid self-employment tax on that $40,000. That could save you thousands every year.

2. Ownership and Structure Rules

In terms of ownership and management style, there are certain key differences between an LLC and a S Corp.

• LLCs provide the freedom to divide profits however you all agree and permit an unlimited number of owners, including non-residents of the United States.

• S Corps are only permitted to have 100 shareholders in the United States, and they are required to divide profits according to ownership percentage.

• S Corps are required to adhere to more formal regulations, such as a single class of stock and stricter ownership guidelines, whereas LLCs provide more flexibility in management.

Imagine that three people launch a company. One makes the biggest investment, another works full-time, and a third assists on a part-time basis. If everyone agrees, they can divide profits with an LLC in the following ways: 40%, 40%, and 20%, regardless of who owns what. Even though one person is doing more work, profits with a S Corp must be split according to ownership shares only.

3. Filing, Paperwork, and Ongoing Requirements

The last thing you need is to become slowed down in paperwork and regulations when managing a business already takes a lot of time. Here, S Corps contribute a little more effort while LLCs typically keep things straightforward.

• Managing an LLC is simple. To get started, you simply file the necessary paperwork, such as the Articles of Organization and obtain an EIN. Since most states don't have difficult regulations or annual meetings, you can concentrate more on running your business and less on paperwork.

• The steps for S Corps are longer. Even if you are the sole proprietor of the company, you still need to hold annual shareholder meetings, record the proceedings (minutes), file a separate tax return, and handle official payroll for yourself.

To put it briefly, if you want less bureaucracy, an LLC is ideal, but a S Corp has more structure and obligations. If you choose to become a S Corp, just make sure you're prepared for the additional layer of work.

4. Cost to Set Up and Maintain

An LLC can be formed for as little as $50 to $500, depending on your state, plus a small annual fee to maintain its status. The initial cost of a S Corp may not be higher, but over time, it may become more costly. To manage the additional tax filings, you will probably require a payroll service, accounting software, and a certified public accountant. An LLC is frequently the better course of action if you're just starting out and trying to keep expenses down. Additionally, you can always convert to a S Corp as your company expands.

5. Raising Money or Getting Investors

Since most prefer C Corps for simpler equity deals, LLCs typically don't draw venture capital or angel investors if you're looking to raise a significant amount of money, like $500,000 or more. S Corps have restrictions as well, such as only permitting one class of stock and shareholders who are based in the United States. Early on, though, this might not matter if you're self-funding or expanding slowly.

Which One Should You Choose for Your Business?

Regarding S Corp vs. LLC, there isn't a single, universal solution. How your business operates, how much money it generates, and how straightforward or structured you want things to be will all play a role in the decision you make.

Choose an LLC if:

• You want something simple, low-maintenance, and flexible.

• Your profits are still growing and not quite over $60,000 yet.

• You’d rather avoid payroll systems and extra tax filings.

Choose an S Corp if:

• Your business makes $60,000 or more in profit.

• You’re looking to save on self-employment taxes.

• You’re okay running payroll or have someone who can handle it.

Both options give you legal protection but how you’re taxed and how much paperwork you deal with will vary. If you’re unsure, starting as an LLC is a safe, simple way to begin. You can always switch to an S Corp later when it makes sense for your income and goals.

Can You Change Your LLC to an S Corp Later?

Yes, you can, and a lot of entrepreneurs do just that. You have the option to launch your company as an LLC, take advantage of the flexibility, and keep things straightforward at first. You can then file Form 2553 with the IRS to change to being taxed as a S Corp once your profits begin to increase and it appears that you could save money on taxes.

Need Help Choosing Between an LLC and S Corp? 

It can be difficult to decide between an LLC and a S Corp, particularly when future plans, taxes, and paperwork are all involved. Working with someone who is knowledgeable about the specifics can be extremely beneficial if you're not sure which structure is best for your circumstances. Whether you're just getting started or considering a change, schedule a free consultation so we can go over the benefits and drawbacks, do the math, and help you set up your company correctly and without any guesswork.

Conclusion

Creating an LLC is a simple and sensible first step for the majority of small business owners. As your business grows, it makes things easier. When you start making a steady profit later on, switching to a S Corp can help you save money on taxes. The benefits are often worth the slight increase in effort. As your business grows, you can always adjust what works for you now.

FAQs

1. Is it cheaper to start an LLC or an S Corp?

An LLC is typically less expensive to start. There is less paperwork to manage and most states have lower setup fees. S Corps may incur higher costs due to payroll and tax filing obligations.

2. Can I be the only owner of an S Corp or LLC?

It is possible to operate both as a one-person operation. As long as you adhere to IRS regulations, you can also be the sole owner of a S Corp. Single-member LLCs are also very common.

3. When should I switch from an LLC to an S Corp?

When their profit reaches $60,000 or more, many business owners think about switching. At that point, the possible tax benefits of being a S Corp may begin to have a significant impact.

4. Do I need to pay myself a salary in an S Corp?

Yes, the IRS requires that you pay yourself a "reasonable salary" through payroll if you are an owner and an employee of the company. One of the main regulations that sets S Corps apart from LLCs is this one.

5. Can I change my LLC to an S Corp later?

Of course. To convert to S Corp taxation when the time is appropriate, you can begin as an LLC and submit a straightforward form (Form 2553) to the IRS. There's no need to launch a new company.