1. What Are LLCs and S Corps?
2. Tax Benefits of S Corp Versus LLC
3. Single-Member LLCs Taxed as Sole Proprietorships
4. Single-Member LLCs Taxed as S Corporations
5. How Are an LLC and an S Corp Taxed?

The tax advantages of LLCs vs S Corporations, or S Corps, depend on how the LLC has opted to be viewed in the eyes of the IRS.

What Are LLCs and S Corps?

An LLC is a type of business entity while an S Corp is merely a tax designation. 

The actual definition of an LLC depends on the state in which it is formed. LLCs are basically business entities that protect their owners or members from liabilities and can choose how they would like to be taxed — as a corporation or a disregarded entity.

LLCs may have one or several members and so be called either a single-member LLC or multi-member LLC.

This type of business entity is very popular with small business owners and entrepreneurs because it allows for a lot of freedom in the structure of the company as well as providing legal protection and low financial risk. Corporations tend to require more reporting and have more regulations when it comes to management and organizational decisions for the company.

An S Corp is a specific tax designation recognized by the Internal Revenue Service (IRS) and Internal Revenue Code (IRC), so an LLC can actually also be an S Corp if it files a Form 2553 to elect that specific status.

Tax Benefits of S Corp Versus LLC

The IRS recognizes these four different tax designations for companies:

LLCs are not actually a type of business structure in the eyes of the IRS, but they must elect a particular designation.

Single-member LLCs are taxed as sole proprietorships while multi-member LLCs are taxed as partnerships unless they request otherwise.

By filing the correct paperwork, LLCs can elect to be taxed as either C Corps or S Corps.

The biggest difference between sole proprietorships and S Corps is how they handle Medicare and Social Security taxation or self-employment taxes for the company. Electing S Corp taxation status is a way for owners of LLCs to sometimes cut costs.

Single-Member LLCs Taxed as Sole Proprietorships

Single-member LLCs have only one owner, so all profits and losses for the company must be recorded on the personal tax returns of that individual. The LLC itself does not pay business taxes.

Because members of single-member LLCs are viewed as owning a sole proprietorship in the eyes of the IRS, they are considered to be self-employed and are therefore required to pay Medicare and Social Security taxes.

Since 2016, the taxes are as follows:

  • Social Security: 12.4 percent on all income under $118,500.
  • Medicare: 2.9 percent, plus an added 0.9 percent for higher incomes.

These taxes are also owed by all employees, but the employer is required to pay half of these taxes while the employee is responsible for the other half.

If the owner of a single-member LLC remains identified as a sole proprietorship, when the company profits $150,000, that individual will pay income taxes on $150,000 and self-employment taxes — which includes Social Security and Medicare — on $150,000.

Single-Member LLCs Taxed as S Corporations

If a single-member LLC elects S Corp status, they will be taxed differently. This way, the sole member is viewed as an employee of the business and must earn a fair wage.

That employee's salary is reported as a business expense by the LLC, and the salary and company profits are taxed as the sole owner's personal income tax.

With the S Corp designation, this owner doesn't have to pay self-employment taxes on all of the profits of the company, but just on their personal salary.

Therefore, if the company profits $200,000, and the sole owner is paid $50,000 for the year, they will pay Social Security and Medicare taxes on $50,000 only, and the total $200,000 is just subject to income taxes.

How Are an LLC and an S Corp Taxed?

LLCs and S Corps are taxed as disregarded entities or pass-through entities. This means that the profits of the company pass to the owners or members and are taxed on their personal income tax returns.

C Corporations are taxed as businesses, and the shareholders are taxed on their shares. This is double taxation. Basically, the profits of the company are taxed twice, once as the company's income, and again as the shareholders' income.

LLCs and S Corps avoid this double taxation.

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