If it’s come down to corp vs. llc in your mind, you’re probably trying to decide between an llc vs. s corp. When playing out the llc vs. corporation scenario, the first thing you should do is seek advice from a lawyer or accountant familiar with your particular business and personal situation.
LLC vs. S Corp - The Similarities
Both s corporations and llcs are "pass-through" entities for tax purposes, meaning that income derived from either type of entity is passed through directly to the owners and reported on the owners' personal income tax returns. This avoids double taxation, which is a detriment of C corporations. With a C corporation, the corporation’s net income is subject to corporate income tax, and what remains after the corporate income tax is taxed a second time when it is paid out to the owners.
S Corp vs. LLC – The Differences
- Less Paperwork for LLCs.
LLC’s require less formality and paperwork and are more flexible in how owners divide up profits
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- S Corp Ownership Restrictions
An s corporation can have no more than 100 shareholders. Shareholders can only be U.S. citizens, resident aliens of the U.S., or other S corporations There are no restrictions on the ownership of an LLC.
- S Corp vs. LLC - Division of Profits
S corporations must follow corporate procedures and have no flexibility in dividing profits among owners (e.g. if John owns 29% of XYZ, Inc., he is only able to make 29% of the profits). That is not to say that shareholders of an s corporation cannot be paid different salaries for services performed for the corporation. The division of profits, pertains to only profits.
Owners of an LLC can distribute profits in any manner they see fit. For example, assume Aiden and Barry own an LLC to which Aiden contributed $80,000 in capital and Barry put in $20,000. If Barry performs 80% of work the owners could still decide to split the profits 50/50. If these same partners owned an S Corporation, Aiden would be required to take 80% of the profit and Barry only 20%, however, Barry could still be paid a salary for the work performed.
- S Corp vs LLC - Employment Tax Issues
Owners of an LLC are considered to be self-employed and must pay a "self-employment tax" of 15.3% which covers social security and Medicare. The entire net income of the LLC is subject to self-employment tax.
But for an S corporation, only the salary paid to the owner-employee is subject to employment tax. The remaining income that is paid as a distribution is not subject to employment tax under IRS rules. Therefore, as an owner of an S corporation you may pay less in employment tax savings than you would as an llc.
The scenarios below show you the same business, with the same owner, and what that owner would pay in employment tax as a s corp vs. llc.
S Corporation Scenario
Aiden owns a pet store that has $60,000 in earnings per year. He pays himself a salary of $35,000 to run the pet store. He pays himself the remaining $25,000 as a distribution. Aiden’s total employment tax is $5,355 (15.3% of $35,000).
The IRS doesn’t allow the owner of a s corp to take an artificially low salary and pay him or herself more as a distribution in order to avoid paying employment tax. The owner must pay him or herself a comparable salary that someone doing a similar job may earn. If the salary isn’t a reasonable one for your industry and job type, the IRS could reclassify some of the distributions as salary.
LLC Scenario
Assume everything in the above example is the same, except that Aiden’s pet store is set up as an LLC. In that case, Aiden would have to pay employment tax on the entire $60,000, equaling $9,180.
In the two scenarios above, Aiden saves $3,825 in employment tax as an S corporation.
- S Corp vs LLC – Payroll Taxes Timing and Payment.
The employment tax savings makes the S corporation attractive. But, you still have to deal with paying payroll taxes. The payroll tax is a pay-as-you-go tax that must be paid to the IRS regularly throughout the year--on time, or you will incur interest and penalties
Unlike S corporations that pay as they go, owners of LLCs pay their self-employment tax once a year on April 15 when they would pay their personal income tax. A single-member LLC files the same 1040 tax return and Schedule C as a sole proprietor; partners in an LLC file the same 1065 partnership tax return as do owners of traditional partnerships.
S Corp vs. LLC – Conclusion
As you have read, deciding between an s corp vs llc has pluses and minuses on both sides.
View the entity comparison chart for more questions about S corp vs C corp