LLC Vs S Corp: Definition, Pros and Cons
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Should you form an LLC or S corp status? Do you need a tax lawyer or accountant? Are business profits high enough that you need tax savings to save money? How do you pay self-employment tax? What about the S Corp tax rate? Do you need a multi-member LLC or single one? What is your tax classification? What are business expenses? What is the difference between corporate income tax, taxable income, business assets, and reasonable salary? In this article, we will focus on the choice between LLC, S corp, and C corporation status. Forming either a limited liability company vs. s corporation is not a requirement, but each has benefits that may protect personal assets and offer additional tax savings and improved company profits.
LLC and S-corp: Definitions
What is an LLC?
LLC stands for Limited Liability Corporation; it may also be known as a sole proprietorship. Forming an LLC can provide legal protections for the owner from; lawsuits, and liability protection, and makes the business a legal entity.
Because the business is its own entity under the LLC designation, the assets, bank accounts, and other possessions like homes or cars, are not considered company assets.
An LLC will also have an independent and exclusive business name, which means that once incorporated no other business within that state can use the same name.
A limited liability company also has tax advantages. LLC is taxed as a pass-through entity, making it easy to pay self-employment tax. For example, a single-member LLC can be taxed as a sole proprietorship. The LLC owner would report profits and losses within personal tax returns.
What is an S-Corp?
S-Corp stands for Small Business Corporation. S corp status typically identifies corporations with up to 100 shareholders. The corporate taxes, payroll taxes, and credits are passed through shareholders of the S corporations. In an S Corporation, income is taxed at the shareholder level according to the interest the shareholder has invested in the company. This makes it easier to fill out an LLC owner’s personal tax return or self-employment tax returns.
For the S Corp status, all shareholders must be individuals, with the exception of some non-profits or trusts, must be U.S. citizens or residents, and it must release only one class of stock.
S-Corporations are subject to IRS compliance and have more rules and regulations to follow than LLCs, and in some states corp tax status is the same at the state as the federal level.
As with an LLC, this status protects the owner’s assets – bank accounts, home, car, etc. – from business debts.
LLC vs. S-corp: Similarities
There are several similarities between these designations for business owners such as reasonable salary expectations. Legal protections, creating a division between the owner or shareholders and the business, and corp tax classification, and others. The LLC owners or s corp owners will also have on-going compliance requirements, and tax benefits.
Limited liability protection
Like a sole proprietorship, personal liability protection means the owners are not personally responsible for business debts. Both allow for pass-through taxation, which holds advantages including on filing tax returns as the owner would file personal income tax.
LLC or S-Corp designation also separates business income, income taxes, employees, and shareholders. This separation is important for tax purposes, and also for a reasonable salary, and for protection from business debt. For example, if a customer were to fall in your store, having an S corps vs C Corp vs LLC designation would prevent that customer from suing the small business owners for damages.
Both statuses offer the owner the ability to use pass-through entities for flexibility in how the s corp or LLC is taxed. Business taxes or self-employment taxes can run through the owner’s tax returns. Pass through taxation means that those within S Corp vs C corp status or limited liability company have a tax classification according to their personal income from their share of the business. Because there isn’t a self-employment tax on these small businesses more company profits pass to the shareholders. The LLC owner may pay self-employment taxes and business taxes from the same return. In most states, this means personal income tax is at the minimum 37% rate. Both also provide benefits in payroll taxes.
LLC and S-corp: Differences
The difference between an LLC and other entities is that an LLC can be owned by a single person. The business owner could be one person or a group of principal LLC owners. Limited liability companies can be owned by another corporate entity, while an S-Corp cannot. An s corp can have up to 100 shareholders, an LLC will not. For both, tax savings over time can lead to higher company profits.
The formality of how to manage daily business operations is another difference between an llc and these entities. For an LLC, quarterly meetings may be used to discuss the status of the business, changes to product lines, reasonable salary, and other necessary information but are not required. For a s corp status, these meetings are required. An S Corp must have a Board of Directors. The business structure will also have a significant amount of record-keeping requirements, including rules on how to pay payroll taxes.
An S-Corp designation is recognized by other countries, meaning the business can operate outside of the U.S. The S-Corp must abide by the regulations of the country for income tax, payroll taxes, registration, etc. LLC, like a sole proprietorship, is recognized only within the United States and its territories. This means that to expand to a global market, the small business owner or ownership group would have to create a separate entity for operation in a country outside.
No Public Option
At formation, an S-Corp and an LLC may be virtually identical with an owner or owners and a handful of employees. An S-Corp can also have up to 100 shareholders. The LLC cannot take on shareholders or be taken public. This makes an LLC a less sought-after business investment for most investors.
For an S-Corp, the ownership, board of directors, and all shareholders have to be U.S. citizens and/or residents. However, for an LLC, this is not the case. An LLC’s ownership can be made up of U.S. citizens, residents, and non-residents. In many cases, LLC’s ownership will be made up of family members and may cross state lines.
How to Structure an LLC as an S-corp
Structuring an LLC as s corp can hold tax benefits, and may simplify the conversion of an LLC to an S-corp later on. The best time to consider making the change is when LLC taxes reach a certain point. For an LLC, when income taxes are larger than the tax burden that would be faced by a corporation, it may be time to convert. In general, when net earnings surpass $40,000 per year, the owner may want to begin that conversion.
To form an LLC into an S-corp you will want to follow these seven steps.
Choose a name and DBA
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Your business name should be unique and will need a corporate designation such as Incorporated (Inc.) or Corporation (Co.). Do not use restricted words, trademarked words, or phrases as these are not allowed. Then, register your DBA. DBA stands for Doing Business As; this is necessary because you will be collecting money, fees, etc., under a name that is different from your legal name.
To structure an LLC like an S Corporation, you will have to appoint directors. The primary owners can be appointed. Keep in mind the S-Corp directors are responsible for keeping the corporation operating in good standing with the state, managing the corporation’s business including annual/quarterly taxes, employee taxation, and general workplace management, will be responsible for electing corporate officers, and will be required to attend corporate meetings.
File Articles of Incorporation
The Secretary of State’s office will have information on filing the Articles of Incorporation for the business. The articles are the basis for your partnership and include the name and address, the purpose of the business, the name and address, and the type and number of stock shares that will be issued.
Bylaws and Shareholder Agreement
Corporate bylaws should also be created. These will include the roles and responsibilities of the board of directors, corporate leadership, taxation, reasonable compensation packages for shareholders, etc. Corporate Bylaws will also include the number of shares that can be issued, meeting procedures, records requirements, and other legal documents.
Once the bylaws of the single member LLC or S Corp are created, a shareholder agreement should be developed. This agreement will outline how the business will be handled should the primary owner die, transfer their shares, or otherwise leave the business. The shareholder agreement should be used to protect the financial interests of the shareholders.
Register the business
The next step in structuring the LLC as S Corporation is to register the business. This registration will ensure the business has a separate Tax Identification Number than the owner(s). At a minimum, the business will need a tax ID number from the Internal Revenue Service, and the state’s revenue agency, an Employer Identification Number (EIN) may also be required.
The next step for business management structure in your LLC or S-corp is to open a corporate bank account. This account must be separate from any personal accounts held by the primary ownership group; this will protect personal funds from any business liabilities. The bank chosen will provide a list of all documents needed to open the account, these will likely include proof of state registration, tax ID numbers, and state/local permits and licenses, but may also include a need for the articles of incorporation and possibly the bylaws of the entity.
Once the bylaws are created and the small business is registered, stock certificates should be issued. These are used to help finance the initial business release or add an influx of cash for expansion projects. For record-keeping purposes, the name of the person purchasing shares, the number of shares purchased, the cost, and when purchased should be recorded. Stock certificates can be either digital or physical.
Benefits of an LLC
The main benefits of registering a business as a multi-member or single-member LLC are the protection of the owner from legal issues and liabilities, flexibility in self-employment taxes, and a simple start-up process. However, an expansion might impact the business and owner’s personal assets. The LLC process offers the owner more flexibility in how the business is run, and how to pay personal income tax. An LLC will add credibility to the business, offer advantages in how to pay taxes, and what reasonable salary can be drawn.
Benefits of an S-corp
An S-Corp designation will protect the personal assets of the owner, board of directors, and shareholders, and offer pass-through self-employment taxes, and a self-employment tax designation. Also, an S-corp will have procedures in place for the transfer of the business. S-corps can also issue stock, and have up to 100 shareholders.
The Top 2 LLC Services
Several online platforms offer help with state and federal filings, articles of incorporation, and advice on which business type may be best. Here are two leading platforms:
|Zenbusiness||Northwest Registered Agent|
( Ex: Best Overall, Best Quality…)
|Business Intelligence Group Award for Business||Best Service Formation|
|Detail||Read Review||Read Review|
Zenbusiness was founded in 2017, and bills itself as a one-stop shop for small business preparation. The platform helps small businesses launch, operate, and grow the business, and includes access to many services that simplify the set-up and launch process, and it is automated, which means the owner can quickly and efficiently file needed paperwork.
Through Zenbusiness you can search for available business names, create articles of incorporation, find out the needed documentation for your state and federal filings and registrations, obtain an EIN, build the business’ web presence through domain names, email, and domain privacy protection.
Zenbusiness offers three tiers of members. For each tier there are additional charges which will not be included; these include an EIN filing charge (one time, $70), a worry-free guarantee service ($129 per year), and a 25% discount on agent services, any state filing fees.
- For $49 (Starter Plan), you can form your business within 3 to 4 weeks, file LLC paperwork, get an annual compliance service, search for business names, and have phone/email support, and online document access. The Starter Plan does not automatically renew each year.
- For $199 (Pro Plan), you get all of the Starter Plan benefits, plus extras including an operating agreement, expedited filing services, a virtual business guide, and Google Ads credit. The Pro Plan automatically renews each year.
- For $299 per year (Premium Plan), you get all of the Starter Plan and Pro plan benefits plus extras including a business website, a business domain name, and a business email address. The Premium Plan automatically renews each year.
However, if you only need help with specific issues, Zenbusiness does offer an a’la carte service. For customer service, Zenbusiness offers phone, email, and live chat support. Email support is offered at all times. Phone customer service is offered Monday through Friday from 8:00 AM-7:00 PM Central Time. Customer service phone number: (512) 237-7349. Live chat services operate during the same time frame as phone services and can be accessed through Zenbusiness’ website.
Northwest Registered Agent
Northwest is primarily a Registered Agent Service but their suite of tools does offer additional business services at a reasonable price. The main difference between Northwest and similar entities is that Northwest only offers one paid plan for services. The initial cost is $39 to file the LLC paperwork; all other charges are due as per your state’s regulations. There is a separate option, called Pay In Full. With this option, which costs $225, Northwest will file the LLC, and provide agent services for one year, however, all other charges from state fees, etc., will still apply.
Northwest will scan up to five regular documents each year for free; after the initial five, there is a charge for additional services. This is also different from other providers as many will only scan and send legal/official documents.
Northwest also has a strict no-data-selling policy and will provide pricing changes in advance. Northwest also offers the ability to pay by the month, with an auto-renew option.
The S Corporation designation offers more growth opportunities while the LLC designation offers more flexibility overall.
Frequently Asked Questions (FAQs)
Yes, it is mandatory, but the registered agent does not have to be an outside service provider. Many entities choose to have an employee designated.
Yes, but the type of physical address can vary. All business entities need a business address as well as an agent address. The business address can be virtual such as a post office box. The agent address must be a physical address which can accept mail delivery during business hours. This can be the physical address of the business owner, the physical address of the business.
Once a certain tax threshold is met, the S corporation designation will help to allay some of expansion costs. If the business has the chance to become an international entity, an S-corp will be necessary as LLC designations are only for the U.S.; the same protections do not apply in other countries.
Yes, and no. For LLC, there is no member or board number that must be met. The business owners to form an LLC can be only one person, or can span as many members as is needed. For S-corp, there is a 100 member limit. An S corp can have no more than 100 shareholders, but must have a board of directors and also corporate leadership positions.
Yes, but there will be hurdles. A business ownership structure can be changed from an LLC to an S-corp with certain paperwork. The switch is not difficult, however, it can lead to other issues if there are not specific rules in place beforehand. LLCs are more flexible than S-corps, and leadership may not like the changes, if not previously specified, that an S-corp filing requires. This is why it may be beneficial to structure your LLC as an S-corp from the beginning. This way all parties know the business structure prior to launch, and transfer to the S-corp designation at a time that makes sense for the company.
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