I am considering becoming an S corp, but not sure the benefits vs currently being an LLC?
I am considering switching from an LLC to an S corp before years end. I have spoken to my tax guy, he thinks its feasible, but still have some hesitation on the idea.
I read this quickly along with the responses. All good responses - a couple might be slightly off, but generally on point in theory. Two things I wanted to add that I didn't see in the responses. If your decision to go S-Corp is being based on the ability to put more into a retirement account, then stop right there. Contributions to any retirement plan is based on "earned income". LLC net income is earned income. S-Corp net income is NOT earned income. If you convert to an S-Corp, your SALARY is your only earned income. So you would have to increase your salary (and pay the payroll taxes on the increase) to maximize your retirement contribution.
Second, a single member LLC files an extra schedule on your personal income tax return. S Corporations file a whole separate return. so now there are two returns you have to prepare or most likely have to pay someone to prepare. So make sure you trust the motivation of the person advising you to become an S-Corp. Many times, its a short term benefit but the long term can be a bad answer.
Depending on the situation an S Corp can be much more restrictive and tax expensive. I would need to know more better advising of the positives and negatives.
There can be a substantial tax savings, at least at the federal level, by changing your business to an S-Corp (although there are other reasons to do so as well) While the income from both an LLC and an S-Corp always passes through to your personal return and is subject to regular income tax (LLCs and S-Corps are not themselves taxed at the federal level), you will also pay the 15.3% self-employment tax on the total amount of LLC income. With an S-Corp, the net income is not subject to the 15.3% tax. Instead you must pay yourself a reasonable salary, and the 15.3% tax applies to the salary portion of your income only, with half of this tax paid by the S-Corp and the other half is withheld from your salary. The lower the salary, the less of this 15.3% tax is paid. Of course, you must pay yourself a "reasonable" salary, exactly what constitutes "reasonable" is a matter for debate depending on the profession or trade, and most S-Corp owners will pay themselves on the lower side of what might be reasonable (an IRS audit may determine otherwise). Also, while you can save a lot of federal tax with an S-Corp, some states separately tax their income (i.e. California charges a tax equal to 1.5% of the S-Corp's income; other states charge a fixed annual fee whether the S-Corp makes money or not). Furthermore, most states will require you to pay separate unemployment and disability taxes on your salary, as well as require you to purchase workers comp insurance (even if you are the only employee of your S-Corp and no matter how little risk of injury there may be). S-Corps have to file their own returns (versus LLCs that are just part of the personal return), so there is more compliance to do.
When my clients are considering making this move, I run a cost/benefit analysis based on the federal taxes saved versus the potential additional state payroll tax, workers comp insurance and fees for the added compliance work I would be charging. I can give you a mathematical example if you wish.
You have some good advice already, I would just add a couple potential issues.
1. To gain any benefit for the current year you will have to request and receive a late election, because S elections are supposed to be made for future tax years not retroactive. While late elections can be made there is no guarantee it will be approved and you will have to incur all the cost without knowing if you get the tax benefits.
2. S elections make sense around $70-$80K of profit in a sole proprietorship. You will have to pay yourself a pretty large check before Dec 31 and pay the related payroll taxes on that wage payment before Dec 31.
Most of the tax benefits for an S corp come from lower employment taxes on you net earnings.
I can't say if an S election is right for you, so probably go with what your tax pro says, but be sure you understand the requirements and cost before doing so.
For most companies the LLC legal structure is the most unrestricted; however, the LLC laws for each state vary, as will as state taxes on LLCs. I would encourage you to read the information in this link below, which will help you be more informed when you question your tax attorney/accountant. It also includes a Table that compares the legal structures of: Subchapter S Corp, LLC, C-Corps, and Limited Partnerships. As others have responded, the IRS lets the LLC request to file taxes as a Sole-Proprietor, Subchapter-S Corp, or as a Partnership. For federal taxes the key tax savings are in payroll taxes, which are based on the Managers/Owners salaries. However, the LLC Managers have to be paid a "realistic" salary. The LLC's Salaries/Wages/Payroll Taxes are a tax deductible expense when the LLC elects to file its taxes has Sub-Chap-S. The net income after Salaries/Wages and other expenses pass through to the Managers/Owners, but you don't have to pay payroll taxes on those net earnings. The confusion exists because the legal structure of your company is an LLC; however the IRS says, we will let you elect to file your taxes as if you were a Sub-Chapter S. You don't need to change your legal structure; you do, however, have to request permission from the IRS. Early on Managers/Owners were paying themselves very low salaries to avoid payroll taxes; the IRS audited those LLC's. In other words, you cannot be generating $200k in revenues and paying yourself $10k per year. Hope this helps; we have been through this with our medical doctor Professional LLCs. I'm sure your "tax guy" is aware of all this too Here is the link: https://secure.delcorp.com/pdf/Compare_LLC_Corp_LP.pdf
First, under the Internal revenue code you can elect to have your LLC treated for tax purposes as a Sub Chapter S corporation. The tax impact is the real question for changing to the Sub-S tax election. Currently a Sub-S corporations dividends are not subject to the new 3.8% surtax for dividends that would apply to the other distributions.
Without knowing if you want additional investors, or this is simply about taxes it is hard to determine if the election is worthwhile. There are a lot of good reasons to be change to a Sub-S corporation for tax purposes, but it does not mean it is the right choice in your situation.
You need to have a more detailed discussion with your "tax guy." Too many issues, pro and con, to go into here. If your tax services provider can't go into detail about the consequences of choice of entity, you need to find another tax professional.
First off, you are talking about two different things here. LLC is an entity type. S-corp (subchapter S) is a tax treatment - a corporation is the entity type. Unfortunately, people, including accountants/CPAs and attorneys, conflate these all the time.
There is no such thing as "LLC tax treatment" with the IRS. An LLC can be taxed as an S-corp (under subchapter S), C-corp (under subchapter C), or the default partnership/disregarded entity. For an existing business, you can select S-corp or C-corp taxation at the beginning of the year for taxes going forward by simply filing your selection with the IRS. You do NOT need to convert your LLC to a corporation to elect S-corp tax treatment.
There may be reasons to go from an LLC to a corporation, and you should talk to a business attorney before making that decision and to help you with the process. But you can remain an LLC and get the S-corp tax treatment recommended by your tax guy.
The primary difference is a tax one. In short terms, an S Corp allows you to take a certain amount of income out of the company as dividends, at about 1/2 the tax rate of what you take as salary. However, you'll need to pay payroll taxes, etc on the portion taken as salary. A good tax advisor should be able to look at your current year income and project whether it makes sense for you to make the election, weighing costs vs savings. However, it will only apply going FORWARD, so for 2016 and the future. You can't make a backward looking change. Also, you only need to file one thing with the IRS to make this switch. You don't need a whole new company.
I'm sure you have been told that by being an S corp and taking a wage only the wage becomes taxable, why with an LLC all income is passed to the owner. But don't be fooled. The IRS will look at the reasonable compensation of your wage and what you do in the business. If they think it is to low ($1 a year for example) they will assess additional taxable dollars to you as if you were still an LLC.
If you want future investors, an S Corp can only have individuals as shareholders; an LLC does not have that limitation
My understanding is that transitioning from an LLC to an s-corp is largely based on income and approaching tax brackets. Your tax advisor should tell you the right time to make the switch. If it's time for you, there shouldn't be any hesitation. Yes, an s-corp will come with a little more responsibility in that you'll need to, at minimum, re-elect officers and directors annually to maintain the corporate form, and there will be a few extra documents to draft initially. But it's by no means any heroic effort. Your state's statutes may allow conversion from one entity type to another.
Contrary to Mr. Ensign's belief, there are many reasonably priced attorneys who cater to small businesses. Your tax advisor may be able to recommend someone in your area. If you're lucky, they may even work with a good paralegal to keep costs down. The benefit to you would be forging a relationship so you'll have someone you can turn to as you grow and need advice on contracts and other areas of your business.
The question of whether your existing LLC has the ability and eligibility to convert from its existing tax classification (partnership or disregarded entity) to an S-corporation depends on a number of factors, including Sub-chapter S IRS Code regulations. If you have already spoken to your CPA or accountant and are still not certain it is a good choice, I suggest you ask your tax guy to run the business' tax return under both tax regimes and see whether the S-corporation tax status produces a tangible benefit. Then, if so, you can set about determining whether the LLC can, in fact, make this tax election. Remember, the IRS consider S-corporation tax election as permission, and not a taxpayer's right.
Best of Luck
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