Should You Form an LLC or S-Corp? A Simple Decision Framework
If you've Googled "LLC vs S-Corp" you've probably found a dozen articles that made the decision sound more complicated than it needs to be. Here's the truth: for most small business owners, the answer comes down to one question — how much money are you making?
Let's break it down.
What Each One Actually Is
An LLC (Limited Liability Company) is a business structure. It protects your personal assets (house, car, savings) from business debts and lawsuits. By default, a single-member LLC is taxed as a sole proprietorship — all profit flows to your personal tax return and you pay self-employment tax on the full amount.
An S-Corp is not a business structure — it's a tax election. You can form an LLC and then elect S-Corp tax status with the IRS. This doesn't change your liability protection. What it changes is how you're taxed.
This distinction trips people up. You don't choose between an LLC *or* an S-Corp. You form an LLC, and then you *may* elect S-Corp taxation on top of it.
The Tax Difference (This Is the Big One)
As a standard LLC, you pay 15.3% self-employment tax on all your business profit. If you net $100,000, that's $15,300 in self-employment tax alone — before income tax.
With an S-Corp election, you pay yourself a "reasonable salary" and take the rest as a distribution. You only pay self-employment tax (via payroll taxes) on the salary portion. The distribution is not subject to self-employment tax.
Example: You net $100,000. You pay yourself a $50,000 salary and take $50,000 as a distribution. You save roughly $7,650 in self-employment tax. That's real money.
The $50K Rule of Thumb
The S-Corp election adds complexity. You'll need to run payroll (even if it's just for yourself), file a separate S-Corp tax return, and potentially pay higher accounting fees.
The general rule of thumb: if your net business income is consistently above $50,000 per year, the S-Corp election starts to make financial sense. Below that, the tax savings often don't justify the added cost and hassle.
Some accountants put the threshold at $40K, others at $60K. It depends on your specific situation, state taxes, and how much you'd pay in additional accounting fees.
When to Make the Switch
Don't rush it. Start as a simple LLC. Once your net income reliably exceeds that $50K threshold for two or more consecutive quarters, have a conversation with your accountant about electing S-Corp status. You can make the election effective for the current tax year if you file Form 2553 by March 15.
Important disclaimer: This is general educational information, not tax advice. Your situation is unique. Before making any entity or tax election decisions, consult a qualified accountant or tax professional who understands your full financial picture.
Curious how salary vs. distribution splits affect your taxes? Try our free Salary vs. Distribution Calculator to model different scenarios for your business.