Updated July 7, 2020:

An LLC, or limited liability company, is a business which files state taxes under a certain set of regulations that allows for decreased paperwork, pass-through income, and a limitation on the owners' personal liability equal to the amount invested in the company. 

S Corporations, on the other hand, are a federal tax filing that puts the company taking advantage under the jurisdiction of Subchapter S of Chapter One of the tax code. This provides advantages similar to an LLC, only on federal taxes, and with stricter requirements. Although both kinds of filings can help a business, they can also cause confusion over issues such as what kinds of companies they are allowed to own.

S Corporations and LLCs

First, you need to understand what characterizes an LLC and an S Corporation as a taxable entity. An LLC is a company that files in such a way that, for state tax purposes, its income is treated as the personal income of the owner or owners and subject to the self-employment tax. It also receives certain benefits regarding financial responsibility for the company's actions and cuts down on paperwork. This can help reduce or eliminate double taxation on earnings from ownership stakes in a company. An LLC can file federally as a privately-held company or as a corporation because the IRS does not recognize the LLC as a kind of tax status.

S Corporations give very similar benefits, but on the federal level rather than the local. An S Corporation also counts income from the company as “pass-through,” or self-employed income rather than corporate. This is especially useful when it comes to paying payroll taxes, which would then only be counted against wages rather than the total profit. In exchange for this preferred filing status, the company agrees to several restrictions on its structure and practices:

  • All shareholders or partners need to be US residents, whether permanent residents or US citizens.
  • The company is restricted to 100 shareholders, though family members and spouses all count as a single person for this calculation.
  • The company is not allowed to make use of different stock classes, though it is allowed to have both voting and non-voting stock.
  • Only individuals are allowed to be shareholders of an S Corporation, not investment firms or corporations or similar instruments.
  • Certain classes of business are expressly forbidden from using Subchapter S. This includes kinds of insurance agencies, financial institutions, and international companies.


When it comes to LLCs owning shares in S Corporations, the main problem they encounter is the fourth requirement. An LLC is not an individual; it is a company. Since it does not meet the shareholder requirements, it can't be a shareholder without canceling the S election of the S Corporation in the process

For LLCs owned by multiple people, that is the end of it. However, sometimes an LLC is owned by exactly one private individual who has organized his business that way for a tax advantage. These LLCs are called disregarded entities by the IRS, and, in accordance with IRS rulings, are allowed to own a stake in an S Corporation. This is subject to the same restrictions as all the other owners of an S Corporation. Moreover, the LLC cannot file federally as a corporation, as a corporation is not allowed to own part of an S Corporation, even if the only shareholder is a single individual.


Though the strict IRS rulings may seem like a hassle to small businesses and their owners, there are very good reasons for their requirements. Since S Corporations allow income to pass through to a small number of individuals as personal income, there would exist the possibility of foreign nationals and the like using an S Corporation as a way to funnel money to a party not required to file US taxes, thus denying all taxation on this income. Since the S Corporation rules are designed to encourage certain kinds of American businesses by making them more competitive though beneficial tax breaks, this would completely subvert the purpose of the rules in the first place.

If you need help with figuring out if your LLC is legally allowed to own a stake in an S Corporation, 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.”