How to Change LLC to S Corp

The question of how to change an LLC to S Corp is one concerning a company’s tax designation with the IRS and the benefits and drawbacks of that designation. An LLC is a business entity designed to offer its members limited liability from debts and legal actions against the company, while an S corp is an IRS tax designation for an LLC. An S corp also offers limited liability, but it has a different management structure, different rules for transferring shares, and different taxes. If you think the features of an S corp will benefit your particular business situation, you may want to consider changing your LLC to an S corp.

Why Change from an LLC to an S Corp?

The most common reason for changing an LLC to an S corp is for the tax breaks. In many cases, a business owner may prefer their enterprise be treated as an LLC for legal reasons, but for tax reasons, the S corp will prove to be the more desirable option. Some benefits to electing S corp status include:

  • S corps offer pass-through taxation, meaning business profits and losses are passed from your S corps to your personal tax filing, so you are only taxed on them once.
  • S corp owners do not have to pay self-employment tax on their pass-through distributions or income.
  • S corp owners who are also employees of the S corp only have to pay Medicare and Social Security taxes on their salary. (However, they must pay themselves a reasonable salary: the IRS checks for abnormally low salaries.)
  • S corp owners can pay less self-employment tax if their share of the business profits exceeds what salary they would reasonably earn.
  • S corps may be able to enjoy additional tax breaks, like a reduction on owner-employee health insurance policies.

How to Change from an LLC to an S Corp

If you have determined that an S corp is right for you, you will have to change your LLC to a corporation, then elect to be considered an S corp by the IRS. Before you do this, however, you should determine that your LLC can qualify as an S corp. It will if:

  • It is a domestic LLC organized in one of the 50 states.
  • Its shareholders only include individuals, estates, and certain trusts; not corporations, partnerships, and non-resident aliens.
  • It has less than 100 owners.
  • It has one class of stock only.
  • It is not made ineligible by being an insurance company, domestic international sales corporation, one of several types of financial institutions, or having a member that is a business entity (the exception being nonprofits as classified under section 401(a) or 501(c)(3) of the U.S. tax code).

Should your LLC meet the above requirements, in many states you may then become an S corp by using a process called “statutory conversion.” In this process, the liabilities and assets of the LLC will automatically be transferred into the corporation—forming a new entity will not be necessary.

If your state allows formal conversion, the process will be even simpler. Generally, all you will have to do is file Articles of Conversion. Forms, filing fees, and information concerning this process can usually be found on your state’s business filing agency website.

If the above is not allowed in your state, another option is to create a corporation in your state with the same name as your LLC, cancel your LLC at the same time, inform the IRS of your change in structure, and then elect the S corp form with the IRS by filing Form 2553.

One final option is statutory merger, which is usually pursued by those whose states do not allow statutory conversion. In this process, you will form a corporation with your LLC’s members being the shareholders. The shareholders will then agree to a plan to merge and swap their membership interests into the LLC in exchange for shares of the corporation. This requires that you file a certificate of merger with the state, as well as other documents, and in some cases that you dissolve your LLC, as well.

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