Key Takeaways

  • S election for LLC allows an LLC to be taxed as an S corporation, potentially reducing self-employment taxes and offering flexible tax planning strategies.
  • To qualify, the LLC must meet S corporation eligibility rules, including having only allowable shareholders and one class of stock.
  • The election process typically involves filing Form 8832 (Entity Classification Election) and/or Form 2553 (Election by a Small Business Corporation) with the IRS.
  • Timing is critical—deadlines generally fall within 2 months and 15 days after the start of the tax year for which S status is desired.
  • An S-elected LLC combines the limited liability and flexible management of an LLC with the payroll tax advantages and income distribution options of an S corporation.
  • Owners must comply with corporate formalities and reasonable compensation rules to maintain the election.
  • Potential drawbacks include stricter ownership restrictions, loss of flexibility in profit allocations, and possible state-level limitations or taxes.

Electing S Corporation Status for an LLC

S election for LLC allows a business owner to establish a limited liability corporation that receives the tax treatment of an S corporation rather than that of a partnership. This strategy may allow owners to avoid self-employment tax on their shares of income, which is not charged on S corporation distributions.

Eligibility Requirements for S Election

Before making an S election for LLC status, the business must meet all IRS requirements for S corporation taxation:

  • Domestic entity – The LLC must be organized in the U.S.
  • Eligible shareholders – Only individuals who are U.S. citizens or resident aliens, certain trusts, and estates can be owners; partnerships, corporations, and non-resident aliens cannot be members.
  • Shareholder limit – No more than 100 shareholders are permitted.
  • One class of stock – All members must have identical rights to distributions and liquidation proceeds.
  • Permitted entity type – The LLC must not be an ineligible corporation (such as some financial institutions, insurance companies, or domestic international sales corporations).

Failure to meet these conditions at any time can result in termination of S status, with the LLC reverting to its prior tax classification.

Electing S Status for a Corporate Entity Under Check-the-Box Rules

Check-the-box rules allow an LLC to opt for corporate tax treatment. Making this election indicates that the LLC transfers all assets and liabilities to a corporation in exchange for stock, which is then liquidated and distributed to the LLC members. This is treated as a tax-free transaction if the LLC has more assets than liabilities. If the LLC members are eligible to hold S corporation stock, the LLC can go on to elect S taxation status by filing Form 8832, Entity Classification Election. 

A new S corporation must elect for S taxation by the 15th day of the third month after the date on which they obtain shareholders or assets and/or begin conducting business. The entity can do so by filing Form 2553 and will not have to subsequently file Form 8832 if this is done within either 75 days or two months and 15 days after the effective date of S election (whichever comes first). However, S election should not occur before the corporation is conducting business or acquires assets or shareholders.

An entity will be treated as an S corporation from the date of election until it opts for a different classification, which cannot be done within 60 months of S corporation election unless the IRS provides special approval.

Filing Deadlines and Late Election Relief

The IRS generally requires S election to be filed within 2 months and 15 days of the start of the intended tax year. For a new LLC, this deadline is measured from the date the entity acquires assets, begins business, or has shareholders.

If the deadline is missed, the IRS may grant late election relief if the business can show reasonable cause for the delay and that it has acted as an S corporation from the intended effective date. This relief is often requested by submitting Form 2553 with a written explanation of the circumstances and compliance steps taken.

Potential One-Class-of-Stock Issues

For an LLC to elect S taxation status, its operating agreement and other documents must follow S corporation requirements. This may require replacing or amending previous documents. For example, an LLC that allows income or loss to pass through to its owners via special allocation would be considered to have more than one stock class and would therefore be ineligible for S corp status. 

The LLC must distribute liquidation proceeds based on ownership percentage without regard to voting rights and other factors. However, the LLC treated as an S corporation can offer both nonvoting and voting shares. The IRS has not yet ruled on whether limited partnerships taxed as corporations are considered to have more than one class of stock.

Maintaining Compliance With S Corp Rules

Once an LLC elects S corporation status, it must continue to meet eligibility rules each year. Common pitfalls that can cause termination of S status include:

  • Issuing preferred stock or granting disproportionate distribution rights.
  • Admitting an ineligible shareholder, such as a nonresident alien or another entity.
  • Failing to pay reasonable compensation to shareholder-employees, which can trigger IRS audits.
  • Not adhering to required filing deadlines for tax returns and information statements.

Maintaining a compliant operating agreement and monitoring ownership changes are essential to preserving the election.

The Best of Both Worlds

Establishing an LLC and electing for S corp taxation treatment allows business owners to enjoy the benefits of both entities. This is often an ideal strategy for businesses with high payroll taxes or an active trade. Both business entities provide limited liability protection and offer pass-through taxation in which business income and loss is reported on the owner's individual tax return. An LLC is easier to administer than an S Corp and offers more flexibility in allocating profits and losses to its members. However, an S Corp allows owners to receive either salaried wages or earned income distributions. It also facilitates tax planning.

Potential Tax Savings for LLC Owners

One of the main reasons to make an S election for LLC status is the ability to reduce self-employment taxes. In a standard LLC taxed as a partnership, all net earnings are subject to self-employment tax. By electing S corporation status:

  • Owners can receive part of their income as reasonable wages (subject to payroll taxes) and the remainder as distributions (not subject to self-employment tax).
  • The split between wages and distributions must be defensible under IRS guidelines for reasonable compensation, often based on industry standards, experience, and job duties.

While this structure can lead to substantial savings, it also requires formal payroll processes, quarterly filings, and careful tax planning.

LLC: Limited Liability and Flexibility

An LLC is governed by state statutes and designed to provide the same limited liability as a corporation with the flexibility and tax advantages of a general partnership or sole proprietorship. With an LLC, each owner reports profits and losses on his or her individual tax return. This allows the members to avoid the double taxation that affects corporation owners. 

Like a corporation, an LLC limits the personal liability of each owner to his or her initial capital contribution. In a general partnership or sole proprietorship, each member is liable for all debts and financial obligations of the business. An LLC can opt for treatment as a partnership, sole proprietorship, or corporation for federal tax purposes. 

S Corporation: Planning and Compensation Options

To form an S corporation, owners must follow the state guidelines to establish a corporation and then submit Form 2553 to the IRS to elect taxation as an S corporation. With this election, the business credits, deductions, losses, and income pass through to the owners' individual tax returns. This allows them to be taxed at the individual rate and avoid double taxation.

State-Level Considerations for S Election

Although S corporation status is a federal tax election, state taxation rules vary:

  • Some states recognize the federal S election and do not impose separate corporate taxes.
  • Others require a separate state S election or levy a franchise tax or fee on S corporations.
  • A few states, such as New Hampshire and Tennessee, do not recognize the election at all for tax purposes, meaning the LLC may be taxed differently at the state level.

Before filing, LLC owners should review their state’s requirements to avoid unexpected taxes or compliance issues.

Frequently Asked Questions

1. What is an S election for LLC?

It’s a tax classification allowing an LLC to be taxed as an S corporation, potentially reducing self-employment taxes and offering strategic income distribution options.

2. How do I file an S election for my LLC?

File IRS Form 2553, and if needed, Form 8832, within 2 months and 15 days after the start of the intended tax year.

3. Can any LLC make an S election?

No. The LLC must meet IRS eligibility rules, including limits on the number and type of owners and maintaining only one class of stock.

4. What are the main benefits of S election for LLC?

Key benefits include potential payroll tax savings, pass-through taxation, and flexible income distribution between salary and dividends.

5. Can I lose my S corporation status after electing it for my LLC?

Yes. Violating eligibility rules—such as admitting an ineligible owner or creating a second class of stock—can terminate S status.

If you need help with establishing S corporation election for your LLC, 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.