LLC vs. S-Corp — The Profit Shift
Presented by Better Biz Info
💡 Tip of the Week
Run the $60–$70K test: Add last year’s owner pay + profit. If you’re over $60–$70K consistently, S-Corp may be your best option. Set up a meeting with us or your tax accountant to strategize.
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Quick Take
If the words “entity” and “tax election” make your eyes glaze over—you’re not alone. Here’s the simple version.
Your entity is the legal wrapper for your business—think of it like the house your business lives in (sole prop, partnership, LLC, or corporation). It’s about ownership and protection.
Your tax classification is the label the IRS uses to decide how your profits get taxed. That label can be S-Corp, C-Corp, partnership, or disregarded entity (usually sole prop). It’s separate from the house.
Most small businesses pick an LLC for the legal wrapper (flexible, protective), and then later choose to elect to be an LLC taxed as an S-Corp when it makes financial sense. Same house, new tax label.
The Landscape (benefits & limits)
- Sole Proprietorship: Simplest start-up; no liability shield; all profit subject to self-employment (SE) tax of 15.3%.
- Partnership: Multi-owner pass-through; active partners pay SE tax.
- LLC: Liability protection + flexible ownership. For taxes, a single-member LLC is usually treated as a disregarded entity; a multi-member LLC as a partnership—unless you elect S-Corp.
- C-Corp: Separate corporate tax; potential double taxation on dividends; useful in specific cases (e.g., venture-style growth, funding from ROBS).
- S-Corp (election): Pass-through taxation—you avoid payroll tax on profit above a reasonable salary; requires payroll and an extra return (1120-S + K-1).
Spotlight: LLC vs. S-Corp
LLC (no S-Corp election): Straightforward admin; no payroll requirement; but all active profit (whether pulled or not) is subject to SE tax.
S-Corp: Pay a reasonable W-2 salary; every dollar above that flows as profit without payroll tax. Trade-offs: run payroll and file Form 1120-S + K-1. CPA bill may rise, but at the right income the savings usually outweigh cost.
Why this matters: The label you choose affects how much you keep. With an S-Corp, you pay yourself a reasonable W-2 salary, and profit above that salary avoids payroll tax (you still pay income tax). That’s often a big savings!
When an S-Corp Makes Sense (Rule of Thumb)
- You’re consistently taking home $60–$70K+ (owner pay + profit).
- Profit is fairly steady (not whiplash month to month).
- You’re ready to run payroll and handle the extra filing.
- Your state fees/rules don’t erase the benefit.
What Does a “Reasonable Salary” Mean?
Ask: “What would I pay someone to do my job with my responsibilities?” For many small businesses, a practical floor is $50–$60K but check with your tax accountant for more insight. Pay that via W-2; treat amounts above it as distributions (no payroll tax).
Bottom Line
Pick the wrapper that fits your situation (often LLC at first), then switch the tax label to S-Corp if/when the numbers say it’s worth it. Feel free to schedule a free strategy session with us and we can help you figure out your best path.
