INC vs LLC Taxation: Everything You Need to Know
When considering Inc vs LLC taxation, you should first understand both business structures. 3 min read
Inc. vs. LLC Taxation
When considering Inc vs LLC taxation, you should first understand both business structures. Choosing the right business structure and taxation for your company is one of the most important steps you will take as an entrepreneur. There are variety of benefits to both of these options, but they have their drawbacks as well. You will need to carefully analyze each option and think about your long-term goals when you are making this important business decision.
What is Incorporation?
When you launch a business, one of the most crucial decisions you will make is to choose a business structure. If you don’t make a choice, your business will default to a partnership or sole proprietorship. They are very simple business structures and easy to form, but they are not the wisest option as there is no separation between yourself and the business.
When you decide to incorporate, you move from a partnership or sole proprietor to a formal legal company that is recognized by the state. It is its own entity that is separate from you. Your company will then fall into either a limited liability company or a corporation. There are many benefits you receive no matter which option you choose. The most significant is being protected from personal liability. Your business will also have more credibility with your customers.
It can be confusing when deciding between an LLC and a corporation. They are both formed by filing paperwork with your state. They also protect you from liability if your business faces financial problems or is sued. However, there are differences in how each business structure is taxed and managed.
Not all incorporation options are the same. When you are making a choice, this will help determine the foundation for the success of your business. Consider all your long and short-term goals for your company.
Corporation vs. LLC: Taxes
The tax burden of your business can have an impact on whether you form an LLC or a corporation. Both structures have their own benefits; however, they are also subject to different taxation rules.
Limited Liability Company Benefits
Limited liability companies are a more recently developed business structure, but they are becoming increasingly popular, with an almost two-to-one growth rate as opposed to corporations. The taxing of LLCs is one reason why they are so popular:
- An LLC is a pass-through structure. This means you do not need to file any additional paperwork or elections. The limited liability protects the owners, also known as members, for any liability incurred by the business. This limited liability protects you from any personal risks associated with a lawsuit or bankruptcy, keeping your personal assets safe.
- The flexible management is another benefit. A corporation has a very formal management structure with directors overseeing the major decisions of the business. Officers are responsible for the daily operations. LLCs do not have a formal management structure. They can be member-managed or managed by a group of hired managers (manager-managed). LLCs require no specific job titles and are informal compared to corporations. If you’re not looking to raise money through venture capitalists, an LLC is an ideal option.
- LLCs also have pass-through taxation. This means that taxes are not paid on the business level. The income and losses of the business will be reported on your personal income taxes. If you owe, you will pay the taxes at the personal level.
- LLCs are not classified with their own tax classification. Single-member LLCs will pay taxes like you would for a sole proprietorship. LLCs can also be taxed as either S or C corporations.
When business owners are deciding which corporation to go with, many strongly consider the taxation of S and C corporations when making a final decision. An S corporation is the standard corporation that is taxed according to subchapter S of the IRS code. S corporations are pass-through taxed entities like LLCs.
C corporations are taxed separately. They are also subject to double-taxation if the profits of the corporation are distributed to the shareholders as dividends. A C corporation will pay taxes on its profits first, then the owners will pay taxes at the individual level. This is where the double tax comes from.
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