If you're just starting a new business, or you've decided it's time to learn how to incorporate a business to protect your personal assets, you're probably a bit overwhelmed and unsure where to begin. Should you form an LLC or choose to structure your business as an S corporation, or S corp?
Both options offer a number of advantages and disadvantages and, as every state has its own guidelines, it's important to speak with your attorney or accountant before choosing a business entity. Still, here's a look at the difference between these two popular entities and examples of how each might be the best fit for you.
Understanding the Benefits
When you choose to form an LLC or S Corp, your personal assets will be protected from business creditors. This type of limited liability works by limiting your financial responsibility to the amount of your investment in your company. For example, if you put $20,000 into it and incur debts totaling $35,000, you will only be liable for the $20,000.
Both options offer a number of advantages and disadvantages and, as every state has its own guidelines, it's important to speak with your attorney or accountant before choosing a business entity. Still, here's a look at the difference between these two popular entities and examples of how each might be the best fit for you.
Understanding the Benefits
When you choose to form an LLC or S Corp, your personal assets will be protected from business creditors. This type of limited liability works by limiting your financial responsibility to the amount of your investment in your company. For example, if you put $20,000 into it and incur debts totaling $35,000, you will only be liable for the $20,000.
Both options also help you save money in taxes as you won't be subject to double taxation, wherein business income is taxed first at the corporate level and again once profits are distributed. The big difference here is an S corp requires owners pay themselves a salary plus dividends from additional profits, whereas LLCs are pass-through entities, meaning income and expenses of the business are reported on the operator's personal tax return.
LLC vs Corporation: What's the Difference?
While an LLC and S Corp offer many of the same advantages, they are very different entities. To help you truly understand the difference between the two, let's go through the pros and cons of each.
LLC Pros and Cons
If you form an LLC with a single member, you don't have to file a tax return for the LLC because all activity will be reported on your personal tax return. LCs are also incredibly easy and inexpensive to form, costing no more than a few hundred dollars with only a single form to fill out if you will have only one member. If cost is a concern, a Delaware LLC is the cheapest option. LLCs also have less stringent requirements to meet compared to an S Corp.
On the other side, if you form an LLC as a single member, you will need to pay self-employment tax on any income you generate and make quarterly estimated payments. You must also be careful not to pierce the so-called corporate veil so the business must be operated separately from your personal expenses, otherwise you lose your protections.
S Corp Pros and Cons
The biggest advantage to an S Corp? You'll enjoy huge tax benefits in terms of excess profit, or distributions. All employees must be paid a reasonable salary that's tied to the norm in the industry and you may deduct payroll expenses. Any remaining profit may be distributed as dividends and thereby taxed at a much lower rate than regular income.
On the other hand, an S Corp has stricter guidelines to meet than an LLC. To form an S Corp, you must be a U.S. citizen or resident. Your company may not have more than 100 shareholders and only one class of stock may be issued. Profits and losses are distributed to all shareholders in direct proportion to their interest. An S Corp is also more expensive to form than an LLC and even your shareholders must abide by the requirements or your S Corp will be treated as a C Corp. No more than 25% of your gross receipts may come from passive activities and you may face extra state taxes, depending on where you incorporate.
Which is Best?
Because LLCs are cheaper and easier to form with less restrictions, this option is often the best choice for new business owners as well as those operating online businesses. Remember: when you form an LLC, you can also elect to be taxed as an S Corp while still enjoying the benefits of an LLC.
If your business is growing very quickly and you need to bring in investors or share ownership, it might be a better idea to incorporate as an S Corp. While you can switch from an LLC to an S Corp, the size and scope of your business when you incorporate is very important.
While it may seem a bit overwhelming when you're learning how to incorporate a business, remember to talk with an attorney or accountant first and discuss your options with a business services company like USA Corporate Services to better understand the ramifications of your decision.
LLC vs Corporation: What's the Difference?
While an LLC and S Corp offer many of the same advantages, they are very different entities. To help you truly understand the difference between the two, let's go through the pros and cons of each.
LLC Pros and Cons
If you form an LLC with a single member, you don't have to file a tax return for the LLC because all activity will be reported on your personal tax return. LCs are also incredibly easy and inexpensive to form, costing no more than a few hundred dollars with only a single form to fill out if you will have only one member. If cost is a concern, a Delaware LLC is the cheapest option. LLCs also have less stringent requirements to meet compared to an S Corp.
On the other side, if you form an LLC as a single member, you will need to pay self-employment tax on any income you generate and make quarterly estimated payments. You must also be careful not to pierce the so-called corporate veil so the business must be operated separately from your personal expenses, otherwise you lose your protections.
S Corp Pros and Cons
The biggest advantage to an S Corp? You'll enjoy huge tax benefits in terms of excess profit, or distributions. All employees must be paid a reasonable salary that's tied to the norm in the industry and you may deduct payroll expenses. Any remaining profit may be distributed as dividends and thereby taxed at a much lower rate than regular income.
On the other hand, an S Corp has stricter guidelines to meet than an LLC. To form an S Corp, you must be a U.S. citizen or resident. Your company may not have more than 100 shareholders and only one class of stock may be issued. Profits and losses are distributed to all shareholders in direct proportion to their interest. An S Corp is also more expensive to form than an LLC and even your shareholders must abide by the requirements or your S Corp will be treated as a C Corp. No more than 25% of your gross receipts may come from passive activities and you may face extra state taxes, depending on where you incorporate.
Which is Best?
Because LLCs are cheaper and easier to form with less restrictions, this option is often the best choice for new business owners as well as those operating online businesses. Remember: when you form an LLC, you can also elect to be taxed as an S Corp while still enjoying the benefits of an LLC.
If your business is growing very quickly and you need to bring in investors or share ownership, it might be a better idea to incorporate as an S Corp. While you can switch from an LLC to an S Corp, the size and scope of your business when you incorporate is very important.
While it may seem a bit overwhelming when you're learning how to incorporate a business, remember to talk with an attorney or accountant first and discuss your options with a business services company like USA Corporate Services to better understand the ramifications of your decision.