Small business owners, even for the smallest of businesses, may want to have a legal status as an LLC or S-Corp for their business, as this protects them from lawsuits and provides other benefits. Though these are only two of the options for small businesses, they are the most common ones. The differences should be understood before any decision is made so the business owner knows how it can impact them and their business. What are the differences between an LLC and an S-Corp?
Pros and Cons of an LLC
LLCs are easy to set up and though they do cost money, it’s usually inexpensive. There aren’t a lot of strict guidelines for creating an LLC, either, which makes this an attractive option for small business owners. The downsides include the way the business is taxed and how the LLC is operated. The LLC is considered a pass-through business, so it does not file a tax return. Instead, the business owner files the incomes or losses with their personal tax return and will need to pay a self-employment tax. It is important to be careful with how the LLC operates, as the operation does need to be separate from the owner, not a shell company for the owner to operate under.
Pros and Cons of an S-Corp
An S-Corp is a different business status that offers tax benefits if there are distributions to employees. If the business is doing well, any remaining profits after payroll and taxes can be distributed to the owner. This is taxed at a lower rate than self-employment taxes, so depending on the profits each year, this could save the business owner a significant amount of money. The downsides include the strict guidelines needed to form an S-Corp, the costs to form it, limitations on passive income, and the limited salary that can be paid to the business owner to avoid issues when filing taxes.
Both LLCs and S-Corps can be a good way to operate a business, but it is important to determine which one to pick carefully. LLCs are easier and have fewer requirements, but an S-Corp could have tax benefits that outweigh the downsides. Business owners considering becoming an LLC or S-Corp may want to speak with an accountant before making any decisions, as this will help them find out what an impact each will have on their taxes and whether the disadvantages of either are something to be concerned with.