LLCs vs. S Corps: Which One Will Save You More on Taxes?
When it comes to setting up a business, one of the most important decisions entrepreneurs must make is choosing the right business structure. Two popular options for small businesses are S corporations and LLCs, both of which offer unique tax advantages.
S corporations, or "S corps," are a type of corporation that elects to be taxed under Subchapter S of the Internal Revenue Code. This means that the business is considered a separate taxable entity, but the income and losses are passed through to the shareholders and reported on their personal tax returns. This can potentially save money on taxes, as the business is only taxed once, rather than at both the corporate and personal level. S corps also offer shareholders limited liability protection, meaning they are not personally responsible for the company's debts.
LLCs, or limited liability companies, are a more flexible business structure that combines elements of both corporations and partnerships. Like S corps, LLCs offer limited liability protection for the owners, called "members." However, LLCs have more flexibility in terms of management and ownership structure, as they can have any number of members and do not have to hold annual meetings or follow strict corporate bylaws. Additionally, LLCs have the option to be taxed as a sole proprietorship, partnership, or corporation, depending on the number of members and the way the business is run.
One key difference between S corps and LLCs is that S corps have stricter requirements for eligibility and can only have 100 shareholders or less, all of whom must be U.S. citizens or residents. LLCs, on the other hand, have no such restrictions and can have an unlimited number of members from any country.
In terms of taxes, LLCs offer more flexibility. While S corps are only taxed once, LLCs can choose to be taxed as a sole proprietorship or partnership, in which case the income and losses are passed through to the members and reported on their personal tax returns. This can potentially save money on taxes, as the business is only taxed once, rather than at both the corporate and personal level. However, LLCs can also choose to be taxed as a corporation, in which case they would be subject to double taxation.
If the LLC has a single owner and does not file for S Corporation tax status with the IRS it is considered a disregarded entity LLC. Single Owner LLC’s are a type of limited liability company (LLC) that is treated as a disregarded entity for tax purposes. This means that the LLC is not considered a separate taxable entity, and its income and losses are passed through to its owner(s) and reported on their personal tax returns.
In general, an LLC can be classified as a disregarded entity if it has only one member (also known as a single-member LLC) and it does not file an election to be treated as a corporation. In this case, the IRS will not treat the LLC as a separate taxable entity, and the income and losses will be reported on the individual tax return of the owner, who is also known as the "single member" of the LLC.
It's important to note that while the LLC is disregarded for tax purposes, it still exists as a separate legal entity. This means that the owner still has the personal liability protection that comes with being an LLC member. Additionally, the owner of a disregarded entity LLC will still be responsible for Self-Employment taxes, and the LLC itself will still need to file any required state-level tax returns.
A disregarded entity LLC can be useful for small business owners and entrepreneurs as it can simplify tax filing and compliance. However, it's important to consult with a tax professional before making a decision, as there may be other entity options that would be more advantageous for your specific business. Each business is unique and should consult with their tax advisor to see what the tax benefits for each would be for their business.