S-corp vs LLC
S-corp isn't an entity — it's a federal tax election. Here's when it actually saves money for business owners on top of an LLC, and when it doesn't.
| LLC | S-corp | |
|---|---|---|
| Legal entity type | LLC (state-level) | S-corp is a federal tax election, not an entity |
| How you get it | File Articles of Organization with the state | Form an LLC or C-corp first, then file IRS Form 2553 |
| Liability protection | Yes | Yes (from the underlying LLC/corp) |
| Default federal tax | Pass-through (Schedule C or 1065) | Pass-through via 1120-S; owner takes salary + distributions |
| Self-employment tax | On all profit | Only on the W-2 salary portion |
| Owner requirements | Any individual or entity, US or foreign | US citizens/residents only; max 100 shareholders |
| Payroll required | No | Yes — reasonable W-2 salary to owner-employees |
| Best for | Most small businesses, non-US founders, holding companies | US-resident owners with $80k+ profit who can take a market salary |
The actual tax-savings math, worked out
The S-corp pitch is real but smaller than most "S-corp = huge savings" content makes it sound — run the numbers on a concrete example: $100,000 net profit from an active service business in a low-tax state, single owner who'd otherwise pay $60,000 as a reasonable salary.
Default LLC (pure pass-through)
- Net profit subject to SE tax: $100,000
- SE tax (15.3% on 92.35% of net): ≈ $14,130
- Income tax: applies to net profit minus 1/2 SE deduction
Same LLC with S-corp election
- Reasonable W-2 salary: $60,000 → FICA (employee + employer): ≈ $9,180
- Distribution of remaining profit: $40,000 → no SE/FICA
- Total payroll tax: ≈ $9,180
- Annual extra cost: payroll service (~$600), separate 1120-S preparation (~$800)
Net saving in this example: roughly $14,130 − $9,180 − $1,400 = ~$3,550/year — real, but not life-changing — and the savings scale with the gap between your salary and total profit, so at $200k profit / $80k salary the saving climbs past $10,000/year.
When the math doesn't work
- Net profit below ~$50,000. Payroll + extra accounting eats the savings.
- You're a non-US resident. S-corp shareholders must be US persons. Period.
- Multiple members with very different active roles. S-corp requires single-class stock — you can't easily give one member a bigger distribution than ownership implies.
- You expect to raise venture capital. VCs typically require Delaware C-corp; converting back is straightforward, but pick C-corp at the start if you know.
- You need to retain earnings inside the business. S-corp owners are taxed on profits whether or not they're distributed — same pass-through trap.
Payroll, bookkeeping, and ongoing admin
Default LLC taxation is simple — one Schedule C or a partnership return. S-corp election adds payroll: quarterly Form 941, annual W-2/W-3, state unemployment registration, and a payroll provider (~$50/month). You also file Form 1120-S instead of only Schedule C. The break-even is usually $50k–$80k of net profit per active owner; below that, the admin cost exceeds the self-employment tax savings.
Bookkeeping stays similar either way: track revenue and expenses, issue 1099s to contractors, and reconcile the business bank account monthly. The S-corp adds the requirement to document a reasonable W-2 salary and keep payroll tax deposits on schedule — missing a deposit triggers IRS penalties fast.
QBI deduction and pass-through basics
Both default LLCs and S-corps can qualify for the Section 199A qualified business income (QBI) deduction — up to 20% of qualified business income on pass-through returns, subject to income thresholds and service-business limits. The election changes how profit is split between W-2 wages and distributions, not whether pass-through treatment applies. Your CPA models QBI alongside the payroll-tax savings before you file Form 2553.
How to actually file the S-corp election
- Form the LLC first (or use an existing one). EIN required.
- File IRS Form 2553, signed by every member, by mail or fax to the IRS service center listed in the instructions.
- Deadline: 2 months and 15 days after the start of the tax year you want the election to apply (March 15 for calendar-year LLCs).
- Missed the deadline? Rev. Proc. 2013-30 lets you file late with a reasonable-cause statement attached to Form 2553 — usually granted for first-time elections within ~3 years and 75 days.
- Once elected, you file Form 1120-S annually for the entity and issue K-1s to each owner. Owners receive both a W-2 (salary) and a K-1 (distribution share).
Common S-corp mistakes
- Paying yourself zero salary
The single biggest audit trigger. The IRS expects W-2 wages commensurate with the work — anything else risks reclassification.
- Electing too early
Filing Form 2553 before profit clears the breakeven means paying $1,400+/year in extra costs for zero savings.
- Missing the March 15 deadline
Late-election relief exists under Rev. Proc. 2013-30 but isn't guaranteed. File on time the first year if you can.
- Trying to elect with non-US members
Even one non-US-person member voids S-corp eligibility. Check every member's status before filing.
- Forgetting to actually run payroll
Quarterly Form 941, annual W-2, state unemployment — payroll service handles it for ~$50/month. DIY rarely works.
Operations after you elect S-corp status
- Personal assets: the LLC liability shield stays — the election changes federal tax treatment, not state entity type.
- Payroll: you pay self-employment taxes on a reasonable W-2 salary; distributions above salary avoid SE tax.
- State compliance: you still file annual reports and maintain a registered agent as an LLC.
- Stock classes: S-corps allow only one class of stock — fine for owner-operators, limiting for complex cap tables.