LLC vs. S-Corp: Which Structure Is Right for Your Business?

The LLC vs. S-Corp question comes up constantly with early-stage founders and small business owners. Most people have heard that one is better for taxes, or that one is simpler, or that their accountant told them to do one thing and their lawyer told them to do another. The confusion is understandable — the two structures overlap in meaningful ways, and the right answer genuinely depends on your situation.

What an LLC Is

A limited liability company is a state-law entity that separates your personal assets from your business liabilities. LLCs are flexible: you can have one member or many, and you can structure ownership, profit-sharing, and management almost any way you want. By default, a single-member LLC is taxed as a sole proprietorship. A multi-member LLC is taxed as a partnership by default. In both cases, profits flow through to the members and are subject to self-employment tax.

What an S-Corp Is

An S-Corp is not a separate type of state entity — it's a federal tax election. You form either an LLC or a corporation at the state level, then elect S-Corp status with the IRS by filing Form 2553. Under an S-Corp election, the business is still a pass-through entity. But owner-employees must pay themselves a "reasonable salary," which is subject to payroll taxes. Profits distributed above that salary are not subject to self-employment tax. That's where the potential tax savings come from.

The Tax Savings — and the Catch

Suppose your business generates $200,000 in net profit and you're the sole owner. As a default LLC, the entire $200,000 is subject to self-employment tax. As an S-Corp, you pay yourself a reasonable salary of $80,000 — subject to payroll taxes — and take the remaining $120,000 as a distribution, which is not. The catch is that "reasonable salary" is not optional. There are also real administrative costs to running an S-Corp: payroll processing, quarterly payroll tax filings, a separate business tax return (Form 1120-S), and in some states, additional franchise taxes.

Key Differences at a Glance

Beyond taxes, LLCs and S-Corps differ in important ways. Ownership flexibility: LLCs can have unlimited members, including non-U.S. citizens. S-Corps are limited to 100 shareholders, all U.S. citizens or permanent residents. Profit allocation: LLCs can allocate profits any way members agree. S-Corps must allocate strictly in proportion to share ownership. Formality: S-Corps typically require more formality — annual meetings, minutes, resolutions.

Which One Should You Choose?

If your business is early-stage or generating modest profit, start with a default LLC. If your business is generating consistent net profit — generally $80,000 or more — and you're paying yourself from that profit, the S-Corp election is worth a serious conversation with your accountant. If you have complex ownership arrangements, outside investors, or non-U.S. owners, the S-Corp election may not be available or practical.