LLC Taxed as S Corp Advantages: Everything You Need to Know
LLCs taxed as S-corporations enjoy many advantages. For example, S-corporations allow owners to receive income through a salary or through distributions, and they are more flexible than LLCs in terms of tax planning.3 min read
2. Why Choose an LLC or an S-Corporation?
3. Can Any LLC Become an S-Corporation?
LLCs taxed as S-corporations enjoy many advantages. For example, S-corporations allow owners to receive income through a salary or through distributions, and they are more flexible than LLCs in terms of tax planning.
LLC Electing S-Corp Status
There are many ways that business owners can structure their operations, but most entities today are either LLCs or S-corporations.
An LLC mixes some of the benefits you find in a sole proprietorship with a few of the advantages of a corporation. For example, LLCs give each member limited liability protections and offer greater flexibility in areas such as taxes and structuring the enterprise.
More specifically, with an LLC, the business's profits and losses pass through to the owners, who are also known as the members, rather than the company. This means the double taxation that occurs in a corporation — i.e., both the enterprise and its owners are taxed — doesn't happen with an LLC. Instead, all members file their own tax returns based on their adjusted gross income.
Also, in an LLC, each member's assets are protected should the business be sued or need to declare bankruptcy. This means debtors can't seize those assets in order to settle any outstanding debts.
Both options have a few shared unique advantages. For example, income is passed through to the business owners, and LLCs and S-corporations provide some liability protections. LLCs and S-corporations are also different in a few important ways. For instance:
- LLCs are easier to operate and aren't faced with the same administrative laws that apply to S-corporations.
- LLC owners enjoy some advantages compared to S-corporations in terms of assigning profits and losses. Depending on the criteria outlined in the operating agreement and how the business is structured, certain percentages of profits and losses can be assigned to the various owners.
- S-corporations have the option to pay owners either through an earned income (i.e., a salary) or through distributions.
- S-corporations give owners more flexibility in terms of tax planning.
Why Choose an LLC or an S-Corporation?
Business owners are drawn to an LLC for the following reasons:
- Limited liability protections: The LLC isn't taxed. Rather, the individual members are taxed based on their adjusted gross income.
- Tax advantages (i.e., passing income through to the owners): Whether an LLC is set up with one or multiple members or files as an S-corporation, the individual members' assets aren't liable for the company's financial debts. Also, in an LLC structured as an S-corporation, only the owners report their profits and losses on their personal annual tax returns. The business itself isn't taxed.
- Streamlined operations: Unlike a corporation, LLCs aren't required to hold board or shareholder meetings or to record the minutes at such gatherings.
- Greater flexibility: LLC members have greater flexibility to assign profit and loss percentages to individual members. The exact terms can be outlined in the LLC's operating agreement.
An LLC can be structured in the following ways:
- As a sole proprietorship (one member)
- As a partnership (2+ members)
- As a corporation (for tax purposes)
- As an S-corporation
To set up an LLC to be taxed as a corporation, business owners can file Form 8832 or an Entity Classification Election. Once this step is complete, the members can file Form 2553 or Election by a Small Business Corporation to be considered an S-corporation.
Setting up as a corporation or S-corporation gives LLC owners access to more ways, such as generating equity, to attract investors. Moreover, profit, losses, deductions, and credits can pass to the owners (i.e., shareholders) in an S-corporation structure.
Can Any LLC Become an S-Corporation?
Though there are some drawbacks to forming an S-corporation, it can be a fantastic choice for individuals who want more of the perks of setting up a corporation while still enjoying the tax benefits and flexibility of an LLC. LLCs that meet these requirements can become S-corporations:
- Be a U.S.-based LLC.
- Have 100 or fewer shareholders. For an S-corporation, this total includes all family members and spouses. Each of these individuals is counted as a single shareholder.
- Have only one class of stock.
- Be an eligible business. Some financial, insurance, and domestic international businesses can't become S-corporations.
If you need help understanding the advantages of taxing an LLC as an S-corp, 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.