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How does an LLC differ from an S-corporation?

On Behalf of | Apr 1, 2022 | Uncategorized

The first step in starting a business is determining the appropriate business structure.

Two of the most popular options are limited liability companies and S-corporations, but you do not have to choose one or the other. Unlike LLCs, S-corporations refer to taxing methods rather than business entities, but they differ in management and shareholder structuring as well.

Different tax structure

Members of an LLC pay self-employment taxes and all income is taxable. With an S-corporation, the business pays taxes on salaries paid to shareholders and any leftover profits become dividends, which the government taxes differently.

Different shareholder structure

There are no limits to the number of shareholders that an LLC can have, while an S-corporation cannot have more than 100 shareholders. Additionally, all shareholders in an S-corporation must be U.S. citizens, while there are no nationality restrictions on LLC members.

LLCs can also set up subsidiaries but not issue stocks. Conversely, S-corporations cannot set up subsidiaries, but they can issue stocks.

Different management structure

Members or managers typically run LLCs. With members making decisions, the business often runs as a sole proprietorship or partnership. It may look more like a corporation with managers in charge because members are not as participatory in business decisions.

The management structure of an S-corporation looks more like a corporation with a board of directors that handles all big decisions for the company while a lower management team handles day-to-day business.

Most of the differences you see between LLCs and S-corporations are federal law restrictions. This is because federal tax law governs S-corporations, while state law primarily governs LLCs. Regardless, both are beneficial business formations.