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It is common to assume that both LLC and S-corp are business entities. They are not. LLC is a business entity, whereas S-Corp is just tax classification.
There are several more differences between them.
Before we dive in, here's a quick summary table.
Limited Liability Company or LLC, a legal entity formed under state statutes, is like a hybrid between a corporation and a sole proprietorship. It gives business owners protection from personal liability and has pass-through income.
S-Corporation or S-Corp is a tax classification made by companies that allow income & losses to be passed through to the shareholders. The election can be made by any one of the existing business entities: LLC, C-corporation or partnership.
LLC with a single member(owner) is referred to as a single member LLC, whereas if you have multiple members, it is known as multi-member LLC. Without changing the legal entity, an LLC can also elect to be treated as a C-corporation or S-corporation for tax purposes.
There is only one type of S-corp election. Any eligible business entity can elect to be treated as an S-corp by filing Form 2553.
LLC is ideal for small business owners who have been running sole proprietorship and would need liability protection. It is sort of the next stage that business owners move into after starting their business as a sole proprietorship.
S-corp is ideal for small businesses who have started making an income of more than $60k per annum. Only then, they can really make use of S-corp's tax benefits
LLC is governed by state statues. It is only a legal entity, not a new tax entity. By default, LLCs with a single member are treated as a sole proprietorship and multiple members are treated as a partnership. They have a pass-through income, meaning the business income(called distribution) is transferred to the members and are not taxed at the LLC level. Members pay taxes at their individual level. There is no double taxation. Members pay self employment tax (15.3%) on the entire distribution.
S-corp has a pass-through income like an LLC. This means business income is not taxed at the corporation level and is automatically passed through to the shareholders. In addition, shareholders are required to be hired as employees. That means shareholders receive 2 kinds of income from an S-corp: distribution & salary. None of the two is taxed at the corporation level. Therefore, there is no double taxation. All the taxes are paid at the individual level. However, shareholders do not pay self-employment tax(15.3%) on their distribution. That's the main tax savings in an S-corp.
A single member LLC usually pays 2 types of taxes: payroll tax and franchise tax. Members of the LLC pay income tax at the individual level.
S-corp usually pays 2 types of taxes: Payroll tax and franchise tax. In addition, shareholders pay income tax at their individual level.
The costs to register and maintain an LLC and an S-corp depend on a lot of factors: state of operation, nature of business, etc.
LLCs are considered relatively less expensive.
Due to its complex structure, S-corp is usually slightly more expensive.
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