S-Corporation vs LLC: Which Is Best for Your Business?
For many business owners, selecting the right entity comes down to a choice between the Limited Liability Company (LLC) and the S-Corporation. These are the two most common forms of small business incorporation, with S-Corporations, or S-Corps, being the most popular business entity in America. While quite similar in many respects, LLCs and S-Corporations both have advantages over one another. Which one is right for your business?
How LLCs and S-Corps Are Similar
LLCs and S-Corporations share the same “separate entity” status enjoyed by corporations (meaning the company is a separate entity from its owners). This offers liability protection from the many risks of doing business.
How LLCs and S-Corps Differ: Profits and Voting Power
An S-Corporation divides profits between its shareholders evenly. Someone with 30% of the stock would receive 30% of the profits while another with 10% of the stock would receive 10% of the profits, and so on.
This is not the case with the LLC. In an LLC, the members (akin to stockholders, although LLC’s usually issue “member units” as opposed to common stock) decide how profits should be divided. There may be someone with 10% of the “stock”, but they put in 30% of the work. This stockholder can receive more than what they have invested if the other members agree that they deserve it.
The same goes with voting power. S-Corporations follow a more traditional structure by which voting power is determined by stock ownership. An LLC can give more or less voting power to stockholders regardless of how much stock they may own.
The Benefits Of An LLC
There are several benefits to forming an LLC instead of an S-Corporations. There are less requirements on this more flexible business entity. You can almost think of an LLC as a marriage between a classic small business (partnership / sole proprietorship) and a corporation.
Forming an LLC offers you:
- No ownership restrictions – virtually anyone (individuals, Corporations, other LLC’s, and even foreign entities may be owners of an LLC).
- The ability to operate with a single member.
- No required annual annual meetings.
- Pass through taxation: the net income/loss is "passed through" to the personal income of the owner(s)/member(s), and is simply taxed as personal income, An S-Corporation has separate ownership provisions. The S-Corporation is limited to 75 shareholders all of which are required to be US citizens. They are also required to hold shareholder and corporate meetings, which can affect record-keeping needs and continuity within a company.
The Benefits Of An S-Corp
Forming an S-Corp does offer benefits not available to LLCs. If you have employees that you provide benefits to, an S-Corporation will get better deductions in regards to benefits (health insurance, disability, and more.)
In addition, the status of the pass through income is a little different as well for the personal service principals (the principals that are employees.) It is considered “passive income” and not “earned income (like it is with an LLC.) Thus, Social Security and Medicare taxes (at this writing) are not levied.
Have you been in business for a long time, with no end in sight? An S-Corp may be a better choice for you as LLC’s may have a limited shelf-life. Some states have a cap on how long they can stay in business (30 years, etc.)
Choose The Right Business Entity To Protect Yourself (And Your Profits)
Overall, S-Corporations allow for more shareholder uniformity and tax savings, while an LLC allows more free negotiations and possibilities for ownership and accountability. Choosing which one is right for you depends on the unique needs and goals of your business.