Converting an LLC to an S corp is possible, but should be done carefully. The advantages of each business structure are offset by potential disadvantages. From a tax treatment perspective, the advantages and ramifications are roughly equal. However, from an company expansion point of view, the differences can be important. In all cases, conversion will come with some expenses that are unavoidable.
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LLC and S Corp Similarities
LLCs and S corps are similar in tax treatment. S corps are "pass through" organizations, whereby owners, known as stockholders, receive shares in profits directly proportionate to their ownership percentage, based on the number of shares owned. Neither S corps nor LLCs need to pay taxes on their earnings as profits are distributed to owners as personal income.
LLC and S Corp Differences
S corps are standard corporations whose stockholders have chosen to have their company become a "pass through" organization. Profits and losses are delivered to stockholders. However, S corp regulations mandate that they have 100 shareholders or less, all of whom must be U.S. citizens or documented resident aliens. LLCs have no such ownership restrictions. LLCs can accept investment from foreign investors. However, as standard corporations, with only tax treatment differences, S corps can evolve into publicly traded entities, whereas it is exceedingly difficult and often impossible for this to occur with an LLC.
Reasons for LLC to S Corp Conversion
While there are few motivators to convert an LLC to an S corp, the potential reasons are important. Primary reasons to convert an LLC to an S corp are tax benefits and flexibility to grow. The major tax benefit with an S corp is the ability to designate some profit as salary and some as dividends. Payroll taxes on salary can be paid through the corporation. This saves money in self-employment taxes. While restricted to 100 shareholders, the corporation structure, with stock ownership, offers more flexible ways to get more investment and grow the company.
Maintenance Requirements with a Corporation
Converting your LLC to an S corp involves additional administrative duties. Corporation law requires naming a board of directors, holding regular recorded meetings, writing and updating bylaws, and other state-mandated requirements. Other than additional paperwork, you should not face other detriments. The potential for double taxation is eliminated by electing S corp tax treatment. Therefore, all the benefits of a corporation combined with the individual tax treatment of an LLC may make it worthwhile to complete the added paperwork required for a corporation.
References & Resources
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