Can a LLC Be a S Corp: Everything You Need to Know
Can an LLC be an S corporation? Yes, in some cases it can be taxed the same. 4 min read
2. Protection of Assets and Liability
3. Other Benefits of an LLC
4. What Is an S Corp?
5. LLC vs. S Corp: Similarities and Differences
6. Treating an LLC Like a Corporation
Can an LLC be an S corporation? Yes, in some cases it can be taxed the same. Even accountants and lawyers get caught up in the differences between various types of business. This is true especially when dealing with things like employer responsibilities, taxation, and asset protection.
An LLC and an S corporation are two different kinds of entities, but there are certain situations where an LLC and a corporation crossover are treated the same. This can provide great advantages in tax planning and protection against double taxation for the company, so long as the owners are careful in the way they approach the arrangement.
What Is an LLC?
An LLC grants asset protection and liability defense like a corporation while providing the tax efficiency of a sole proprietorship, with a degree of operational flexibility. This structure is authorized by state statutes and is the newest form of business in the nation, as well as the most popular for small startups.
LLCs are pass-through entities. This means that the profits or losses of an LLC “pass through” to the owners, which are called “members.” You act just as if you were running a DBA or sole proprietorship: you report all profits and losses on your personal federal income taxes. This avoids the problem of double taxation that many corporations suffer, and usually at a lower tax rate.
Protection of Assets and Liability
While an LLC provides the tax flexibility of a sole proprietorship, it places an important limit on the personal asset liability each member holds, similar to a corporation. In general, your liability is going to be limited to whatever your investment in the LLC is. Under a sole proprietorship, if you end up with liability issues, your personal assets (your house, your car, and the like) could be at stake.
Other Benefits of an LLC
The following are other major benefits of an LLC:
- Ease of operation — there are fewer forms and filings and lower start-up costs, there are fewer required formal meetings, as there's no board of directors, and there are fewer requirements for record keeping.
- Profit sharing that is less restricted; you can generally distribute profits as the members see fit, as opposed to basing them on capital contributions.
- The entire net earnings are treated as self-employment income when you pay taxes, so profit in an LLC is just that: profit.
What Is an S Corp?
An S corporation is formally incorporated under the state and elects to pass income, losses, credits, and deductions through to owners for taxation purposes. Owners report these income and losses to avoid corporate double taxation. S corps are subject to certain limitations: they must be based in the U.S. They can have no more than 100 shareholders (with all members of a family, including spouses, counted as a single shareholder). Shareholders can be only individuals, estates, and certain trusts and not partnerships, corporations, or non-resident aliens. They can have only one class of stock but can have both non-voting and voting stock. Finally, insurance companies, domestic international sales companies, and some financial institutions are ineligible to be an S corp.
S corp earnings are dividend income, which means they are not taxed as self-employment and thus are at a lower tax rate.
LLC vs. S Corp: Similarities and Differences
Both LLCs and S corps have the benefit of pass-through income, and both protect their owners against liability in regards to personal assets. As we've seen above, however, an LLC carries the advantage of being easier to operate, administrate, and allocate profits and losses.
Where, then, does an S corp have advantages? The S corp has more flexibility in terms of paying earned income to owners in the form of wages, salaries, and distributions, and in terms of tax planning, an S corp can have more favorable tax rates if properly established.
Treating an LLC Like a Corporation
You can, after setting up an LLC, have it treated like an S corp. If the business is an active trade, with high payroll taxes, your LLC can remain an LLC for legal purposes but have it treated like an S corporation for taxation. You can still have pass-through but also gain more advantageous tax planning and better tax treatment for fringe benefits.
However, the owner will be subject to double taxing in this case, so you will want to be sure the tax savings will be significant. It's not an easy decision to make, and you'll want the best legal help available.
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