A limited liability company (LLC) is similar to a general partnership or sole-proprietorship. As one of the most popular types of business entities, it has the limited liability of a corporation without many of the restrictions that a corporation has. In an LLC, each owner (called a member) has limited liability, and any entity like an individual, corporations, trusts, estates, or partnerships, or other LLCs can be owners.
An S-Corp is any business that has received a Subchapter S standing from the IRS. In order to become an S-Corp, the business must first be designated as a corporation, then file to become an S-Corp. This type of business structure is desirable for some organizations, as an S-Corp is treated as an individual entity by the government. This means that the business’ shareholders and owners are not financially liable if the S-Corp is sued
The difference between an S-Corp and a traditional corporation is that the profits and losses pass through to the shareholder’s personal tax return. Therefore only the shareholders are taxed, not the S-Corp itself. Within this formation, any shareholder that works for the company is required to pay themselves ‘reasonable compensation’ or fair market value compensation.
If your business is just starting out, knowing which type of entity formation to establish can be a confusing and daunting process. S-Corps and LLCs perform some of the same functions and have some of the same benefits to owners. However, there are some major differences between the two entities that business owners must consider before committing to either entity.
While LLCs and S-Corps require approximately the same amount of paperwork at the time of formation, S-Corps require more ongoing administrative responsibilities such as monthly or quarterly tax filings and deposits as well as regular meetings of the directors and shareholders. LLCs do require annual documentation of business activities, though this can usually be done annually versus monthly or quarterly as S-Corps may require. LLCs may also avoid some of the other formalities of S-Corps. Profit sharing is less restrictive as members can decide how they want to split profits.
With an S-Corp, shareholders experience more of a tax break than with an LLC, as LLC members are subject to employment tax on the net income of their business. S-Corp owners only have their wages taxed, and the remaining income is paid to the shareholder as a ‘distribution.’ In an LLC, the owner is considered self-employed, and must pay the 15.3% self-employment tax on all profit.
Unlike an LLC, an S-Corp is treated like an individual person in most respects. This means if the owner dies, sells their share of the company, or leaves the company, the S-Corp lives on relatively undisturbed, which also protects the remaining shareholders and their assets. Some of the guidelines that LLCs must follow can be different, though members may still sell their membership interest or have it transferred to their heirs if they die.
If you need help determining which type of entity is best for your business, we encourage you to learn more about what we provide within our Business Formation System, or schedule a phone call with one of our experts.