7 Reasons to Choose an LLC, S-Corp or C-Corp for Your Small Business

If you are starting a small business, you might be wondering which legal entity is best for you. There are many factors to consider, such as taxes, liability, ownership, and funding. In this article, we will compare three popular options: LLC, S-corp, and C-corp.

What is an LLC?

An LLC stands for limited liability company. It is a legal business structure that combines the flexibility and simplicity of a sole proprietorship or partnership with the limited liability protection of a corporation. An LLC is not a separate tax entity, but rather a pass-through entity. This means that the profits and losses of the LLC are reported on the owners’ personal income tax returns, avoiding double taxation.

Some advantages of an LLC are:

Easy to form and maintain. You just need to file articles of organization with your state and pay a filing fee. You don’t need to hold annual meetings or keep minutes like a corporation.

Flexible management and ownership. You can have as many owners (called members) as you want, and they can be individuals, corporations, or other entities. You can also choose how to manage your LLC, either by the members or by appointed managers.

Limited liability protection. The members are not personally liable for the debts and obligations of the LLC, unless they personally guarantee them or commit fraud or negligence.

Some disadvantages of an LLC are:

Self-employment taxes. The members have to pay self-employment taxes on their share of the LLC’s income, which can be higher than corporate taxes.

Limited life span. An LLC may dissolve if a member dies, withdraws, or files for bankruptcy, unless the operating agreement specifies otherwise.

State fees and taxes. Some states charge annual fees or taxes for LLCs, which can vary depending on the state and the number of members.

What is an S-Corp?

An S-corp stands for small business corporation. It is a tax status that can be elected by some corporations or LLCs that meet certain criteria. An S-corp is also a pass-through entity, meaning that the profits and losses are reported on the owners’ personal income tax returns.

Some advantages of an S-corp are:

Tax savings. An S-corp can avoid double taxation by paying its owners reasonable salaries and distributing the remaining profits as dividends. The salaries are subject to payroll taxes, but the dividends are not. This can lower the overall tax burden for the owners.

Asset protection. The owners (called shareholders) are not personally liable for the debts and obligations of the S-corp, unless they personally guarantee them or commit fraud or negligence.

Transferability of shares. The shareholders can easily transfer their shares to other eligible shareholders without affecting the S-corp status.

Some disadvantages of an S-corp are:

Eligibility requirements. To qualify as an S-corp, you must have 100 or fewer shareholders, only one class of stock, and only U.S. citizens or residents as shareholders. You must also file Form 2553 with the IRS within 75 days of forming your corporation or LLC.

Corporate formalities. An S-corp must follow the same rules and regulations as a C-corp, such as filing articles of incorporation, issuing stock certificates, holding annual meetings, keeping minutes, and filing annual reports.

Shareholder compensation. An S-corp must pay its shareholders reasonable salaries for their services to the corporation, which can be subject to IRS scrutiny. If the salaries are too low or too high, the IRS may reclassify some of the dividends as wages or vice versa.

What is a C-Corp?

A C-corp stands for regular corporation. It is a legal business structure that is separate from its owners. A C-corp is subject to corporate tax rates on its profits, and then its shareholders are taxed again on their dividends. This is known as double taxation.

Some advantages of a C-corp are:

Unlimited growth potential. A C-corp can have unlimited shareholders, multiple classes of stock, and foreign investors. This makes it easier to raise capital and go public.

Employee benefits. A C-corp can offer tax-deductible benefits to its employees, such as health insurance, retirement plans, and stock options.

Longevity and continuity. A C-corp has a perpetual existence that is not affected by the death or departure of its shareholders.

Some disadvantages of a C-corp are:

Double taxation. A C-corp pays corporate taxes on its profits, and then its shareholders pay personal income taxes on their dividends. This can result in a higher overall tax burden for the owners.

Complex and costly formation and maintenance. A C-corp requires more paperwork and fees to form and operate than an LLC or an S-corp. It also has more compliance and reporting requirements to the state and federal governments.

Less control and flexibility. The shareholders of a C-corp have limited control over the management and operations of the corporation, which are delegated to the board of directors and the officers. The shareholders also have to follow the bylaws and the state laws that govern corporations.

How to Choose an LLC, S-Corp, or C-Corp for Your Small Business

There is no one-size-fits-all answer to which legal entity is best for your small business. It depends on your goals, preferences, and circumstances. However, here are some general guidelines to help you decide:

If you want a simple and flexible business structure with limited liability protection and pass-through taxation, an LLC may be a good option for you.

If you want to save money on taxes by paying yourself a salary and dividends, and you meet the eligibility requirements, an S-corp may be a good option for you.

If you want to raise capital from a large number of investors, offer different types of stock, or go public, a C-corp may be a good option for you.

You should consult with a business attorney and a tax professional before choosing a legal entity for your small business. They can help you understand the pros and cons of each option and advise you on the best course of action for your situation.

LLC vs S-corp vs C-corp: A Statistical Comparison

In this blog post, we will compare three common types of business entities in the US: LLC, S-corp, and C-corp. We will use some statistics to show the differences and similarities among them in terms of formation, taxation, and ownership.

Formation Statistics

According to the US Census Bureau, there were about 5.9 million employer firms in the US in 2019. Of these, about 2.4 million were corporations, 1.6 million were LLCs, and 1.9 million were other types of businesses (such as partnerships and sole proprietorships).

Among the corporations, about 1.8 million were S-corps and 0.6 million were C-corps. This means that about 75% of corporations chose the S-corp tax status, while 25% chose the C-corp tax status. This also means that S-corps accounted for about 30% of all employer firms, while C-corps accounted for about 10%. LLCs accounted for about 27% of all employer firms.

These statistics suggest that S-corps are the most popular type of corporation, while LLCs are slightly more popular than C-corps among all types of businesses.

Taxation Statistics

One of the main differences between LLCs, S-corps, and C-corps is how they are taxed. LLCs are typically taxed as pass-through entities, meaning that their profits and losses are reported on the owners’ personal income tax returns. S-corps are also pass-through entities, but they have to meet certain requirements to qualify for this tax status. C-corps are taxed as separate entities, meaning that they pay corporate income tax on their profits, and their shareholders pay personal income tax on their dividends.

According to the IRS, there were about 4.4 million S-corp tax returns filed in 2018, reporting a total net income of $472 billion. The average net income per return was $107,000.

There were about 1.7 million C-corp tax returns filed in 2018, reporting a total net income of $1.9 trillion. The average net income per return was $1.1 million.

There were about 3.8 million partnership tax returns filed in 2018, reporting a total net income of $1 trillion. The average net income per return was $263,000.

Note that partnership tax returns include those filed by LLCs that are taxed as partnerships, as well as those filed by other types of partnerships. The IRS does not provide separate statistics for LLCs.

These statistics suggest that C-corps have much higher profits than S-corps and partnerships (including LLCs), but they also face double taxation on their earnings.

Ownership Statistics

Another difference between LLCs, S-corps, and C-corps is how they are owned and managed. LLCs have a flexible ownership structure that allows them to have any number and type of owners (called members), who can also manage the business or delegate management to others. S-corps have a more restrictive ownership structure that limits them to have up to 100 shareholders who must be US citizens or residents, and who have equal voting rights and profit-sharing rights. C-corps have the most complex ownership structure that allows them to have unlimited shareholders who can be US-based or foreign-based, and who can own different classes of stock with different voting rights and dividend rights.

According to the US Census Bureau’s Annual Business Survey, there were about 32.5 million business owners in the US in 2018. Of these, about 5.6 million were corporate owners (including both S-corp and C-corp owners), 10.5 million were partnership owners (including both LLC and other partnership owners), and 16.4 million were sole proprietorship owners.

Among the corporate owners, about 4.2 million were S-corp owners and 1.4 million were C-corp owners. This means that about 75% of corporate owners were S-corp owners, while 25% were C-corp owners.

Among the partnership owners, about 7.9 million were LLC owners and 2.6 million were other partnership owners. This means that about 75% of partnership owners were LLC owners, while 25% were other partnership owners.

These statistics suggest that LLCs and S-corps have more owners than C-corps, but they also have more limitations on who can be their owners.

Conclusion

LLCs, S-corps, and C-corps are different types of business entities that have different advantages and disadvantages. Depending on your business goals, needs, and preferences, you may choose one of them or another type of business structure. Before making a decision, you should consult a professional accountant or attorney who can advise you on the legal and tax implications of each option.

References:

https://www.census.gov/library/stories/2020/09/employer-businesses-by-type-2019.html

: https://www.nerdwallet.com/article/small-business/s-corp-vs-c-corp

: https://www.irs.gov/statistics/soi-tax-stats-integrated-business-data

: https://www.census.gov/data/tables/2018/econ/abs/2018-abs-characteristics.html