Tax Benefits: LLC vs. Corporation

When considering tax efficiencies for your business, it’s important to think strategically about LLC vs. inc taxes. You may even want to consider the tax consequences of a limited liability company versus a corporation well before you set up your business. We’ll discuss some of the issues related to inc vs. LLC taxes and get you thinking about the next steps for your business.

LLC vs. Corporation Taxes

When considering how your business taxes may be affected by your entity structure, it’s important to know the difference between corporations and LLCs.

What does it mean to be a corporation?

For tax purposes, there are two types of corporations: C corporations and S corporations. You may hear both types of “corporations” referenced any time you hear corporate tax benefits being discussed. You need to remember that a C corporation is a business entity and an S corporation is a tax election that both corporations and LLCs can make.

When you form a corporation, all corporations start out as C corporations. Under corporate tax laws, corporations are usually taxed on their profits. Owners are again taxed on their personal income tax returns when they take those profits out of the business. This is known as “double taxation.” For small business owners who are accustomed to taking profits out of the business, double taxation can be costly.

What does it mean to be an LLC?

LLCs are considered pass-through entities, similar to a sole proprietorship or partnership. For some small businesses, this is one of the tax benefits of an LLC vs. a corporation. When considering LLC vs. inc taxes, the LLC tax implications are that the business itself doesn’t pay income taxes on its profits. Instead, any profits or losses are passed through to the owners and reported on their personal tax returns.

As you can see, this is a slightly less complicated way of doing business. However, it doesn’t necessarily mean that the benefits of an LLC vs. corporation will be an easy question for your company to answer.

Corporation Taxes

When considering inc vs. LLC taxes, you should know that C corporations file a corporate tax return and pay corporate income tax on the company’s profits. This can be a cumbersome and expensive process and sometimes requires an audit. However, for large and complex companies with very large profits, corporations are often the safest and most straightforward way to protect shareholders and company assets. This is one of the corporation vs. LLC benefits.

Because distributions are taxed at both the corporate and the shareholder level, C corporations and their shareholders often end up paying more in taxes than S corporations or LLCs. If your company is growing rapidly and has a complex structure, talk to your tax professional about whether remaining a C corporation is right for your company.

One benefit that comes into play for C corporations is that they have a wider range of tax deductions than any other business entity. For example, employee health insurance premiums can be deducted.

LLC Taxes

In the LLC vs. inc taxes debate, some entrepreneurs choose LLCs because they’re more flexible than corporations when it comes to taxation. LLCs can choose from one of three IRS tax classifications. These include:

• Pass-through taxation: In this type of taxation, the LLC’s income and expenses pass through to the owners’ personal tax returns. This is the default form of taxation for an LLC. For a small business, the advantage of pass-through taxation can be one of the biggest LLC vs. inc tax benefits.
• C corporation taxation: Believe it or not, LLCs can choose to be taxed as C corporations. By filing form 8832 with the IRS, an LLC can dress itself up in corporate clothing.
• S corporation taxation: If an LLC meets the requirements for S corporation taxation, it can file form 2553 to be taxed as an S corporation.

Self-Employment Taxes for LLCs

The owners of a standard LLC who work in the business are considered self-employed and do not work “for” the LLC. The LLC doesn’t pay any of their Medicare or Social Security taxes. The owners must pay the full 15.3% self-employment tax (the taxes that go toward Social Security and Medicare). If the owners were working for someone else, their employer would pay half of those taxes.

S Corporation Election

It’s important to understand that both LLCs and C corporations can make an S corporation election. S corporations don’t file corporate income tax at the federal level. Instead, the corporation’s profits pass through to the shareholder’s personal tax returns, similar to an LLC. Each shareholder pays personal income tax on their portion. Like LLCs, S corporations are known as “pass-through entities.”

However, corporations must meet certain requirements to be eligible for S corporation taxation. These requirements include:

• Only U.S. shareholders (for a corporation) or members (owners of an LLC), which can be individuals, certain trusts, and estates
• No shareholders/members that are partnerships, corporations, or non-resident aliens
• No more than 100 shareholders/members
• Only one class of stock

With an S corporation election, LLCs have the opportunity to let owners be paid as employees, meaning they would derive income from the LLC in two ways: as a salary and as a portion of the company’s profits. In that scenario, the owners would only pay Social Security and Medicare taxes on their salary, not the rest of the profits they receive. For some LLC members, this could mean a lot in tax savings. Be sure to ask your tax pro if this election is right for you.

How We Can Help

Our LLC formation service is an excellent resource to get entrepreneurs up and running quickly — for $0 to start. We can also help you form a corporation in all 50 states and the District of Columbia. Our full suite of renowned business services and tools supports you throughout the life of your company to not only help you get started but to help your business grow and thrive. If you work with us to form your LLC, we can even help you make your S corp election, making the paperwork a snap. Let us take care of formation, tax elections, compliance, and more, so you can focus on what you love to do.

Disclaimer: The content on this page is for informational purposes only and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.