LLC Electing S Corp Status

Many wonder: can an S-corp be an LLC? Although these two popular ways to organize a business share some similarities, they are also different. One of the similarities is that both S-corporations and LLCs can take advantage of pass-through taxation, which allows the income to go to the company owners or members. Both types of business entities also come with protection for limited liability. However, there are some features that set the two business types apart.

When you're starting a business, consider the various differences before you decide on how to form your company:

  • When thinking about ease of administration and operation, an LLC wins over an S corporation.
  • When looking at allocation of the percentage of losses and profits among company members or owners, an LLC offers more flexibility than an S corporation.
  • For payment of the company earnings to the members or owners as wages, salaries, or distributions, an S corporation offers more flexibility than an LLC.
  • For tax planning, an S corporation is more flexible than an LLC.

State-specific statutes authorize the formation and operation of an LLC. This structure offers the limited liability that is present in a corporation, as well as the flexibility in operations and tax efficiencies of general partnerships or sole proprietorships. 

Most LLCs choose pass-through taxation, although corporation tax treatment is an option. If you choose pass-through taxation, all of the losses and profits of the LLC will be passed through the business to the member(s). Similar to a partnership or sole proprietorship, the individual member(s) will report all business losses and profits on the personal tax return. This benefits the member(s) because it eliminates the double taxation of a corporation. 

The personal liability of each member is limited to how much they have invested in the LLC, another feature that sets an LLC apart from a general partnership or sole proprietorship. In these business structures, each of the business owners is potentially liable for all business debts.

An LLC's benefits and advantages make it a top option for business owners. Some of the most significant benefits include:

  • Limited liability for the members
  • Pass-through taxation of the business income to the members, which eliminates double taxation, unless you choose corporate taxation
  • Simplified operation, including fewer required formal meetings, record-keeping regulations, forms, filings, and start-up costs
  • Reduced restrictions around profit sharing: the members can distribute profits and earnings as they desire, not as a percentage on the capital contributions
  • All net earnings of the LLC will pass through to the members through self-employment income. These earnings are subject to self-employment tax for Medicare and Social Security at 15.3 percent.

An LLC is not specifically recognized by the IRS with its own tax classification on a federal tax level. The federal tax treatment is distinct and separate from the limited liability that members of an LLC are provided under the laws of the state. No matter what type of federal tax treatment is selected for the LLC: sole proprietorship, corporation, or partnership, the members of the LLC are still protected from personal liability.

A single-member LLC is automatically treated like a sole proprietorship. A multi-member LLC is automatically treated like a partnership. However, the members of an LLC can choose for the business to have corporation tax treatment by filing the Entity Classification Election, or Form 8832. After electing for corporation tax treatment, the business must then file the Election by a Small Business Corporation, or Form 2553, to be treated as an S corporation for tax purposes.

An S Corporation can be formed in compliance with statutes for incorporation within the state. The business must submit IRS form 2553 to elect for all business credits, deductions, losses, and income to be passed through to its shareholders. All owners of the S corporation will report all losses and income on their personal tax documents at the income tax rate for individuals. This is a benefit because it prevents being double taxed on the business income.

A corporation that wishes to be treated as an S corporation for tax purposes may be subject to certain limitations. However, if these limitations do not cause issues with the plan for your business, this formation may be a good option. 

If you need help with whether an S Corp can be an LLC, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.