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You Convinced me I Need an Entity. LLC or S-Corp?

This is probably the most common question a business attorney gets: How to decide whether to form an LLC or an S-Corp.

1. Taxes

Almost always, the answer to which entity is tax-driven and we ask your CPA to run the numbers. Both entities (if properly formed, properly capitalized and properly run) provide the same level of legal protection. Before the most recent tax code update, there were some significant differences to small businesses tax treatment, and often the CPA would see a strong tax savings in the S-Corp based on the industry, business model and personal financial situation of the owner(s). Lately, in my anecdotal experience, there is no real tax savings one way or the other.

2. Type of owners

The other definitive answer to this question is that an S-corp owner must be a natural person and not an entity (except for a very specific kind of trust that rarely applies to running a business) AND the S-corp owner must be a US citizen or green-card holder. If you are going to have a business structure that is a holding company of some sort that will be the owner of subsidiary businesses, that holding company must be a C-corp or an LLC.

There are also limits on the number of shareholders an S-corp can have (currently 100).

3. Personal preference

If there are no tax, citizenship or holding company issues, the answer is often personal choice. LLCs are much more flexible. They are creatures of contract, while an S-corp is a creature of statute. LLCs can be set up so that the profits and losses that are attributed to the owners are not the same as the ownership percentages (for example if one owner has a lot of income from other businesses, one perk to investing in this LLC might be that this owner/investor gets all the LLC losses for the first few years to offset their other income). It is easier to have silent partners who have almost no management say. This is often an easier type of entity to set up and maintain; for some entrepreneurs, less bureaucracy is a huge plus in choosing the entity.

Corporations are very rigid. They have a centralized structure of shareholders, directors and officers with obligations defined in the statute. Mostly, shareholders get dividends (return on their capital investment) based only on their ownership percentage and not on sweat equity or other non-tangible considerations. Corporations are required by statute to have annual meetings of shareholders and directors.


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