Key Takeaways

  • A Subchapter S LLC is an LLC that elects to be taxed as an S corporation, allowing pass-through taxation with potential payroll tax savings.
  • To make this election, you must file IRS Form 2553 ("Election by a Small Business Corporation") and meet IRS eligibility rules, including ownership and residency restrictions.
  • The subchapter S election form must be filed within specific deadlines — generally within 75 days of forming the LLC or starting the tax year — but late election relief may be available.
  • S corp status imposes additional formalities compared to a standard LLC, such as issuing stock equivalents, holding meetings, and keeping corporate minutes.
  • Filing errors or missing the deadline can lead to loss of S corp status and default taxation as a C corporation.

A subchapter S LLC is a business formation that combines elements of an S corporation with those of a limited liability company, or LLC.

LLC Electing S Corp Status -- The Best of Both Worlds

For new business owners or those who are considering changing the structure of their business, one of the most common first steps is comparing S corporations to LLCs.

Many entrepreneurs, accountants, and attorneys will debate over which business formation is best between the S corporation and the LLC. However, business owners don't necessarily have to choose between the two. A subchapter S LLC is a business that has been formed as an LLC and elected for taxation and treatment as an S corporation.

An LLC is a unique type of business formation that is governed by state laws. Each state has its own set of statutes that outline the rules of creating and operating an LLC. An S corporation, also called an S corp, is a corporation that is formed under state laws and files taxes under the United States IRS code, Subchapter S. An S corp isn't a specific business entity, but a tax filing status with the IRS.

If an LLC has high SECA or payroll taxes on the owner(s) and operates an active business or trade, electing for taxation as an S corporation may be beneficial. Both LLCs and S corps are pass-through organizations, which means the profits and losses are passed through the business to the owner(s). Another similarity is that both are formalities mandated by state laws and requirements, including paying any required fees and filing reports every year. Both offer limited liability protection to the business owner(s).

New business owners should look at the differences between LLCs and S corps to determine which formation is the best option.

  • An LLC is easier to form and operate than an S corporation.
  • An LLC is more flexible than an S corporation for allocating losses and profits between the owners.
  • An S corporation makes it easier to plan for taxes than an LLC.
  • An S corporation is more flexible in how the allocations to owners can be made, such as in the form of distributions or as earned income as wages or salaries.

You might choose one or the other, or you might elect for elements of both, but you should start by deciding which features are most critical to your business and its owners.

How to File a Subchapter S Election Form (Form 2553)

To convert an LLC into a Subchapter S LLC for tax purposes, you must file IRS Form 2553, Election by a Small Business Corporation. This form officially notifies the IRS that your LLC will be taxed as an S corporation.

Steps to File Form 2553:

  1. Verify Eligibility:
    • Must be a domestic entity.
    • Have no more than 100 shareholders/members.
    • All owners must be U.S. citizens or resident aliens.
    • Can have only one class of ownership interest.
  2. Complete the Form Accurately:
    • Include the LLC’s name, address, and EIN.
    • Indicate the tax year.
    • Provide each owner’s name, address, and Social Security number.
    • Obtain signatures from all owners consenting to the election.
  3. Meet Filing Deadlines:
    • File within 75 days of formation or the beginning of the tax year the election will take effect.
    • If missed, consider late election relief by showing reasonable cause for the delay.
  4. Submit to the IRS:
    • Mail or fax the completed Form 2553 to the correct IRS service center (listed in the form’s instructions).

Filing on time is crucial. If the IRS rejects your election due to errors or missed deadlines, your LLC will be taxed under its default classification (usually a partnership for multi-member LLCs or sole proprietorship for single-member LLCs).

Differences in Ownership and Formalities

One of the main differences between S corporations and LLCs is restricted ownership. An LLC can have any number of owners, called members, while an S corporation is limited to a maximum of 100 owners, called shareholders. S corporation shareholders must be United States citizens and/or residents, while LLC members don't have to be citizens or residents. An S corporation can't be owned by a C corporation, partnership, another S corporation, or most types of trusts, but an LLC can be owned by another business, regardless of the formation.

An LLC can have subsidiary LLCs without any restrictions. An S corporation is subject to additional formalities, while an LLC doesn't have those same requirements. Some of these S corporation formalities include:

  • Holding an initial director and shareholder meeting
  • Holding annual shareholder and director meetings
  • Issuing stock
  • Maintaining minutes at all required meetings in the corporate records
  • Adopting bylaws

Although these formalities aren't required, they are recommended for LLCs:

  • Documenting any major business decisions
  • Adopting an operating agreement
  • Holding annual member and manager meetings
  • Documenting the annual meetings
  • Issuing shares of membership to each member

LLC members can choose between a member-managed and manager-managed organizational structure. If the members of an LLC choose to manage the day-to-day operations, it will operate similarly to a partnership. A manager-managed LLC is more similar to a corporation in terms of daily operations since the members aren't involved in small decisions. An S corporation must have a board of directors, which is responsible for overseeing all corporate affairs and handling crucial decisions, as well as officers.

The existence of an S corp is perpetual while an LLC, in some states, may be required to include a date of dissolution on its formation documents.

Maintaining S Corp Status for Your LLC

Once your LLC is taxed as an S corporation, you must follow certain operational and compliance rules to preserve the election:

  • Ongoing Eligibility: Continue meeting ownership restrictions, including the 100-owner cap and U.S. residency rules.
  • Consistent Tax Reporting: File Form 1120-S annually and issue Schedule K-1s to members.
  • Reasonable Compensation: Pay owner-employees a fair salary before taking additional profits as distributions to avoid IRS scrutiny.
  • Corporate Records: Maintain meeting minutes, ownership records, and any required state filings.
  • Avoid Disqualifying Transactions: Certain ownership transfers or creating multiple classes of equity can terminate S corp status.

Failure to meet these requirements can result in the IRS revoking your S corporation election, forcing a reversion to C corporation taxation.

Frequently Asked Questions

  1. What is the Subchapter S election form?
    It’s IRS Form 2553, which allows an eligible LLC or corporation to elect S corporation tax treatment.
  2. Can any LLC file Form 2553?
    No. The LLC must meet IRS eligibility requirements, including ownership limits and citizenship/residency rules.
  3. When is the deadline to file Form 2553?
    Generally within 75 days of formation or the start of the tax year you want the election to apply.
  4. What happens if I miss the filing deadline?
    You may request late election relief if you can show reasonable cause for missing the deadline.
  5. Does filing the form change my LLC into a corporation?
    No. It only changes your LLC’s federal tax classification; your LLC remains an LLC under state law.

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