Key Takeaways

  • S Corps offer pass-through taxation with potential payroll tax savings but come with strict shareholder rules.
  • C Corps provide broad fundraising options, but are subject to double taxation.
  • LLCs offer operational flexibility and personal liability protection, with multiple taxation options.
  • LLPs protect individual partners from the actions of others and suit professional services firms well.
  • Each business structure has unique tax implications, ownership rules, and management requirements.
  • Your choice among S Corp vs C Corp vs LLC vs LLP should align with your growth goals, tax preferences, and liability concerns.

The differences between an S Corp vs C Corp vs LLC vs LLP offer numerous advantages and disadvantages to each entity. In order to determine which business structure will best suit your company, it's important to take a thorough look at the characteristics, benefits, and limitations of each type of structure.

S Corporation (S Corp)

For you personally, an S Corporation offers the same type of liability as an LLC does. The main difference between the two types of entities is the way you'll pay tax on your income.

With an LLC, business income and expenses are accounted for in the personal tax of the business owner. With an S Corporation, the company essentially pays you a salary, which you then pay taxes on as regular income. In addition, any extra profits are considered dividends, which are taxed less than they would be in an LLC. Therefore, in some situations, S Corporations offer significant tax benefits.

S Corporations have only one class of stock and they must not exceed 100 shareholders.

S Corporation Requirements and Limitations

S Corporations must meet specific IRS criteria to qualify for this tax status, including:

  • Having no more than 100 shareholders
  • Shareholders must be U.S. citizens or permanent residents
  • Only one class of stock is permitted
  • All shareholders must be individuals, specific trusts, or estates (no corporations or partnerships)

Unlike C Corps, S Corps are pass-through entities, meaning business income is reported on the owners’ personal tax returns. However, the IRS closely monitors S Corps to ensure reasonable compensation is paid to owner-employees. Excessive distributions without adequate salary can trigger audits and penalties.

S Corps are often best for small to mid-sized businesses with a consistent profit stream where payroll tax savings can be optimized.

C Corporation (C Corp)

The principal difference between a C Corporation and other structures is again the difference between tax options. An S Corporation and an LLC have different ways of dealing with tax, but the responsibility for paying tax on the profits of the company stays with the owners. The C Corporation and the LLC both offer limited liability protection for their owners.

C Corporations have no limits on the classes of stock or number of shareholders allowed.

To form a C Corporation, a company must submit Articles of Incorporation. Shareholders purchase stock in the company as a form of collateral.

Corporations receive favorable tax options when it comes to the ability to deduct expenses from company benefits, such as health insurance, life insurance, and retirement packages. These benefits are not considered income to the employee, so they are not taxed. As the IRS strictly defines “employee,” for an owner to be considered an employee, the business must be a corporation.

Some banks and investors prefer to invest in corporations rather than LLCs, so securing funding for a corporation may be easier than other entities. If you intend to seek funding from venture capitalists or make an initial public offering (IPO) in the future, forming as a C Corporation is your best bet.

Advantages of incorporation include:

  • Personal liability protection.
  • Easy owner transference.
  • Unlimited life span.
  • Tax benefits.
  • In general, easier fundraising.

Disadvantages of incorporation include:

  • Legal requirements (meetings, filings, etc.) and bureaucracy.
  • Expensive formation requirements.
  • Limitations due to state regulations.
  • In some cases (equity capital, debt capital, etc.), fundraising is more difficult.

C Corporation Taxation and Flexibility

A defining feature of a C Corporation is double taxation—once at the corporate level and again when dividends are paid to shareholders. However, the corporate tax rate can be advantageous depending on income levels.

C Corporations allow for:

  • Unlimited shareholders, including foreign investors
  • Multiple classes of stock
  • Broad ownership flexibility, which appeals to venture capitalists and institutional investors

They also benefit from tax deductions not available to pass-through entities. These include deductions for:

  • Fringe benefits
  • Business expenses
  • Employee salaries and bonuses

C Corps are well-suited for businesses planning to go public or seek significant outside investment.

Limited Liability Company (LLC)

A limited liability company (LLC) is a basic business structure that is suitable for many companies, including those with just a single owner or a few employees up to much larger companies. The main purpose of an LLC is to remove personal liability for any debt or actions of the company. This means the company holds those liabilities itself.

When it comes to determining how it will be operated and how the owner's financial interests will be divided, an LLC is the most versatile of all the business entities. When it comes to income tax, it can even choose to be taxed as a C corporation or an S corporation, rather than as a sole proprietorship or a partnership.

Thanks to its flexibility, the LLC structure is best suited for owners who desire more options regarding the management and taxation of their company.

LLC Tax Classification and Structure Options

An LLC can elect to be taxed as:

  • A sole proprietorship (for single-member LLCs)
  • A partnership (for multi-member LLCs)
  • An S Corporation or C Corporation (via IRS Form 8832 or 2553)

This flexibility gives LLC owners the ability to optimize their tax obligations. In their default form, LLCs are pass-through entities, but opting for S Corp status can help reduce self-employment tax if structured properly.

Additionally, LLCs provide flexibility in:

  • Management: Either member-managed or manager-managed
  • Profit distribution: Not tied to ownership percentage
  • Formalities: Fewer administrative burdens compared to corporations

LLCs are ideal for small businesses, real estate ventures, and service providers who want liability protection without the rigid structure of a corporation.

Limited Liability Partnership (LLP)

A limited liability partnership (LLP) and an LLC have some core similarities, but the difference between them primarily relates to liability. In some cases (e.g. fraud), the owners of an LLC may be held liable for actions of the company. Even if it was actually your partner who committed fraud, as a company owner, you may still be liable. An LLP may protect against this kind of situation, as the structure limits the liability of each partner.

An LLP has no limits on the number of partners that may be involved. Partners may be general or limited.

Who Should Choose an LLP?

LLPs are commonly used by licensed professional groups, such as:

  • Law firms
  • Accounting firms
  • Medical practices
  • Architectural firms

These entities benefit from limited liability for the actions of other partners, while still allowing for active participation in management.

Key LLP characteristics include:

  • Flexible internal structure governed by a partnership agreement
  • Pass-through taxation similar to LLCs
  • Protection from personal liability for business debts and claims

Not all states allow all businesses to form LLPs, and state laws vary regarding liability protections. As such, LLPs are typically a good choice for professional services firms that need joint operation without sharing liability for each partner's conduct.

Frequently Asked Questions

What is the main difference between an S Corp and a C Corp? S Corps avoid double taxation through pass-through taxation, while C Corps are taxed at both the corporate and shareholder level.

Can an LLC be taxed as an S Corp? Yes. An LLC can elect S Corp taxation to potentially reduce self-employment taxes, while retaining the flexibility of an LLC.

What are the advantages of forming an LLP over an LLC? LLPs protect each partner from liabilities caused by the other partners' actions, making them well-suited for professional firms.

Which business structure is best for attracting investors? C Corporations are generally preferred by investors and venture capitalists due to their ability to issue multiple stock classes and take on unlimited shareholders.

Do S Corps have to pay salaries to owners? Yes, S Corps must pay owner-employees a “reasonable salary” subject to payroll taxes before issuing any profit distributions.

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