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When starting a business, choosing the right legal structure is a crucial decision. Two of the most common options for small business owners are Limited Liability Companies (LLCs) and S Corporations (S Corps). While both offer liability protection and tax advantages, they have key differences that can impact your business’s growth, taxation, and management structure.
In this guide, we’ll break down the differences between LLCs vs. S Corps to help you determine which is the best fit for your business.
What is an LLC?
A Limited Liability Company (LLC) is a flexible business structure that combines elements of both a corporation and a sole proprietorship or partnership. LLCs provide personal liability protection for owners (called members), meaning their personal assets are generally protected from business debts and lawsuits.
Advantages of an LLC:
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Limited liability protection – Members’ personal assets are protected from business liabilities.
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Flexible management structure – LLCs can be member-managed or manager-managed.
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Pass-through taxation – Profits and losses pass through to members’ personal tax returns, avoiding double taxation.
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Fewer compliance requirements – Compared to corporations, LLCs have less paperwork and fewer ongoing formalities.
Disadvantages of an LLC:
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Self-employment taxes – Members must pay self-employment taxes on the business’s income.
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Limited growth potential – LLCs cannot issue stock, which can limit fundraising opportunities.
What is an S Corp?
An S Corporation (S Corp) is not a business entity itself but a tax classification that a corporation or LLC can elect. S Corps allow businesses to avoid double taxation while offering certain tax advantages.
Advantages of an S Corp:
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Tax savings – Owners can pay themselves a reasonable salary and take additional profits as distributions, potentially lowering self-employment taxes.
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Limited liability protection – Like an LLC, owners’ personal assets are protected from business liabilities.
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Attractive to investors – S Corps can issue stock (though limited to 100 shareholders), making it easier to raise capital.
Disadvantages of an S Corp:
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Strict ownership rules – Limited to 100 shareholders, and all must be U.S. citizens or residents.
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More compliance requirements – S Corps must follow corporate formalities, including holding shareholder meetings and maintaining records.
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Reasonable salary requirement – Owners must pay themselves a reasonable salary before taking distributions.
Key Differences Between LLCs and S Corps
|
Feature |
LLC |
S Corp |
|
Liability Protection |
Yes |
Yes |
|
Taxation |
Pass-through, self-employment taxes apply |
Pass-through, can reduce self-employment taxes via salary & distributions |
|
Ownership Restrictions |
No restrictions |
Max 100 shareholders, U.S. citizens/residents only |
|
Management Structure |
Flexible |
Formal corporate structure required |
|
Fundraising Options |
Cannot issue stock |
Can issue stock (limited) |
How to Choose Between an LLC vs. an S Corp
Choose an LLC if:
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You want a simple structure with fewer compliance requirements.
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You are a solo entrepreneur or small business owner not looking to raise outside investment.
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You are okay with self-employment taxes.
Choose an S Corp if:
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You want to reduce self-employment taxes by paying yourself a salary and taking distributions.
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You plan to raise capital through stock issuance.
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You can comply with corporate formalities and shareholder restrictions.
Converting an LLC to an S Corp
If you’re still deciding between an LLC vs. S Corp and choose to start as an LLC, you can later elect S Corp taxation by filing Form 2553 with the IRS to take advantage of its tax benefits. This allows you to maintain the flexibility of an LLC while taking advantage of S Corp tax treatment.
Final Thoughts
Both LLCs and S Corps offer liability protection and tax advantages, but the right choice depends on your business goals, tax strategy, and growth plans. Consulting with a tax professional or business attorney can help you make the best decision for your specific situation.
If your business has grown so much that your total compensation as the owner is less than half of the profits of the business, you may consider converting to a C-Corp! Here is a podcast episode we made on Qualified Small Business Stock, one of the benefits of converting to a C-Corp.
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