Should I Be an LLC or an S-Corp? A Plain-Language Guide

“Should I be an LLC or an S-Corp?” is the question I get asked more than any other. The answer isn't one-size-fits-all, but the core concept is surprisingly simple once you cut through the jargon. Here's the plain-language version.

First, Understand What Each One Actually Is

An LLC (Limited Liability Company) is a legal entity formed at the state level. It provides liability protection, separating your personal assets from your business debts. From a tax perspective, a single-member LLC is a “disregarded entity,” meaning the IRS ignores it entirely and taxes all the income on your personal return via Schedule C.

An S-Corp is not a type of business entity. It's a tax election. You can be an LLC that elects S-Corp tax treatment. When you make this election (by filing Form 2553 with the IRS), you change how your business income is taxed, not your legal structure.

The Self-Employment Tax Problem

As a sole proprietor or single-member LLC, you pay self-employment tax (Social Security and Medicare) on all of your net business income. That's 15.3% on the first $184,500 (2026 threshold, adjusted annually) and 2.9% above that. On $100,000 in net profit, that's roughly $14,130 in self-employment tax, on top of your regular income tax.

This is where the S-Corp election becomes valuable.

How the S-Corp Saves You Money

With an S-Corp, you split your business income into two buckets: a reasonable salary (subject to payroll taxes) and distributions (not subject to self-employment or payroll taxes). Only the salary portion gets hit with the 15.3% tax.

For example: if your business earns $120,000 in net profit and you pay yourself a reasonable salary of $60,000, you'll pay payroll taxes on the $60,000 salary but take the other $60,000 as a distribution, saving roughly $9,180 in self-employment taxes. That's real money.

The Reasonable Salary Requirement

You can't just pay yourself $1 in salary and take the rest as distributions. The IRS requires that S-Corp owner-employees pay themselves a “reasonable salary,” meaning a salary that's comparable to what someone doing the same work in a similar industry would earn. Setting your salary too low is one of the most common IRS audit triggers for S-Corps.

We use industry compensation data and your specific job duties to determine a defensible reasonable salary. The goal is to set it as low as legitimately justifiable without creating audit risk.

When an LLC Is Enough

An S-Corp election isn't right for everyone. It comes with additional costs: you'll need to run payroll, file a separate business tax return (Form 1120-S), and potentially pay more in accounting fees. If your net business income is below $50,000–$60,000, the self-employment tax savings from an S-Corp often don't justify the additional compliance costs. In that range, a simple LLC taxed as a sole proprietorship is typically more cost-effective.

The breakeven point depends on your specific situation, your state's taxes and fees, and how much additional complexity you're willing to manage. There's no universal answer, only the right answer for your numbers.

The Bottom Line

If you're a small business owner earning consistent net income above $50,000–$60,000, an S-Corp election is worth serious consideration. Below that threshold, an LLC is usually the simpler and more cost-effective choice. Either way, the analysis should be based on your actual numbers, not rules of thumb from the internet.