What is the Difference Between an S Corporation and an LLC?

Before choosing the ideal route for a new company, it is helpful to know the main differences between an S corporation and an LLC. One of the major distinctions between the two types of businesses is that an LLC is known for its flexibility and lack of paperwork, while an S corporation tends to allow business owners to reduce the amount of self-employment tax paid. Additionally, having an LLC permits two or more owners to split the profits as they see fit, whereas an S corporation is strict with division of profits. Finally, the rules regarding shareholders are stringent in an S corporation, while the typical LLC has greater flexibility.

When comparing an S corporation and an LLC, some people might be attracted to the fact that they do not have to pay as many taxes on the former. This is because business owners with an S corporation only have to pay self-employment tax on their own income, not the profit of the entire company. By contrast, LLC business owners are considered self-employed, which makes them responsible for the any income brought in at all. Thus, one of the major differences between an S corporation and an LLC is the amount of money paid in taxes, leading some to consider the former option.

In most cases, there is more than one owner of both the typical S corporation and an LLC, and they often put varying amounts of money into the company. For this reason, the rules of an S corporation state that the owner who put in the most money - must take the highest amount of profit. Thus, business owners who want to divide the profits evenly must create an LLC, as this type of company offers the flexibility to do so. This is the ideal option when one owner puts in a lot of time, while the other puts in a lot of money, as they may wish to share profits evenly.

Another major difference between an S corporation and an LLC is the way that shareholders are governed. When it comes to an S corporation, there is a limited number of shareholders, and they cannot be nonresident aliens, or part of an LLC. By contrast, there are practically no formal regulations associated with an LLC's owners, so they have a lot more flexibility. Therefore, owners wondering whether to form an S corporation or an LLC need to decide whether they want to pay less but follow more regulations, or pay more at tax time in return for increased freedom; an attorney or accountant will be able to provide more details and recommendations for anyone who is unsure which would be the most advantageous in a particular situation.