Wondering what the pros and cons are of forming an LLC vs. a C Corp? Here’s what you need to know about two of the most popular business entities in order to make the best choice for your business.
What Is a C Corp?
C Corporations, or C Corps, is a type of business entity you can form that allows you to publicly trade shares and grow your shareholders over time. This option is often best suited for larger businesses.
What Is an LLC?
Limited Liability Companies, or LLCs, are a business entity type where you can get taxed as a sole proprietorship while taking advantage of the liability of a corporation. It has become the most popular business entity for businesses in recent years.
Similarities Between LLCs and C Corps
Outside of the fact that LLCs and C Corps are both types of business entities, they share several other things in common as well. These include:
Limited liability: Both entities were created to help reduce how liable business owners and shareholders are regarding company decisions, keeping their personal property and assets safe.
Company ownership: Both LLCs and C Corps can own other companies or get bought out by an external corporation.
Terms: When an LLC or C Corp is formed, the term is indefinite.
Formation: Each entity must be formed at the state level and have a unique name that has not been used by any other company in the state.
Differences Between C Corps and LLCs
Depending on the goals of your business, the LLC might be a better choice. But before you decide, let's dive into the differences between LLCs and C Corps.
LLC vs. C Corp: Taxes
Some of the biggest differences between these two business entities are their tax implications.
C Corporations have to pay corporate income taxes twice — once because the corporation itself owes taxes to the government and twice because the corporation’s owner also needs to pay taxes on any salary and dividends received from the business.
This situation is called “double taxation,” which generally translates into a heavier tax burden for the business owner.
LLCs, however, are treated as “pass-through” entities for tax purposes, meaning that the LLC does not pay taxes; any taxable income from the business simply “passes through” to the owner and is reported on the business owner’s tax return. As such, the LLC is not obligated to pay corporate taxes to the IRS. All the profits are technically considered personal income. This negates the burden of double taxation on the business owner.
LLCs have another tax-related feature that can give you an advantage at tax time: you can choose to have your LLC treated as an S Corporation for tax purposes. This can help you potentially reduce your self-employment tax liability.
Talk with a professional tax adviser to get a fuller picture of the tax implications for whatever business entity you choose.
Ownership Structures and Corresponding Requirements
Aside from taxes, another major difference between LLCs and C Corporations lies in the ownership structure.
In general, C Corporations are hierarchical organizations. Power is divided between stockholders, officers, and directors. Stockholders elect directors who make the “big-picture” decisions for the corporation. The directors typically appoint officers to run the day-to-day operations of the company. Stockholders with more shares are rewarded with more voting influence and higher stock profits.
Along with offering higher potential for long-term growth, the C Corp also requires a higher level of complexity in regulatory compliance and reporting. C Corporations must appoint a board of directors, hold annual shareholder meetings, and deal with various other aspects of being accountable to regulators and shareholders.
LLCs are structured like a partnership (or a sole proprietorship in the case of a single member or married couple LLC) but with the same limited liability protection of a C Corp. Members — the term used for the owners of an LLC — effectively run the company and make all the business decisions.
For an LLC, the division of ownership, profit distribution, and most other matters are decided by private agreement amongst the members. With an LLC, the owners make the rules regarding profit distribution and power. Profits are typically — but not necessarily — divided proportionally to a given member’s investment.
In general, LLCs are usually a better choice for smaller companies where only a few owners and workers are involved.
Here are some other notable differences between an LLC and a C Corporation:
Growth: C Corporations offer the owners the ability to partner with venture capitalists who want to invest in the business. Venture capitalists like to invest in C Corps because the corporations are allowed to issue different classes of stock to shareholders; this can help venture capitalists receive preferred shares, which can increase their profits as the company grows. If you ever need to raise substantial capital to scale your business, it might make sense to start a C Corp instead of an LLC.
When Should I Switch From LLC to C Corp?
You should switch from an LLC to a C Corp if your business is growing and you plan to bring on investors or take your company public.
But transitioning your LLC to a C Corp is not a decision to be taken lightly as it will change a lot of things about your business, from how you're taxed to the level of public scrutiny.
There's no deadline for when this transition has to happen, either. As with all business decisions, when to switch will be dependent on your business's unique needs.
Which Entity Is Best for My Business?
Both an LLC and a C Corp have distinct benefits and drawbacks, and what is right for your company will depend on what type of company you're forming (and it may even change over time).
But the bottom line: If you're forming a small business, an LLC is likely your best bet. C Corps are better suited for larger businesses than plan to sell stock
As with all major business and financial decisions, it’s advisable to consult with legal and tax professionals in your state to determine which business entity is best suited for your business goals.
Ben Gran is a freelance writer from Des Moines, Iowa. Ben has written for Fortune 500 companies, the Governor of Iowa (who now serves as U.S. Secretary of Agriculture), the U.S. Secretary of the Navy, and many corporate clients. He writes about entrepreneurship, technology, food and other areas of great personal interest.