LLC vs S Corp: Which Structure Saves You More in Taxes?

Ask ten business owners whether you should form an LLC or an S corp and you will get ten confident, contradictory answers. The confusion is understandable, because the question itself is built on a misunderstanding. An LLC is a legal structure created by your state. An S corp is a federal tax election made with the IRS. They are not two doors you pick between. In the real world, many businesses are both: an LLC that elected S corp taxation.

Once you see the distinction, the decision gets much simpler. This guide breaks down how each is taxed, runs the actual numbers, and shows you exactly when the S corp election starts saving you real money.

The Core Difference Most People Miss

An LLC, or limited liability company, is formed under state law. It gives you a separate legal entity, liability protection, and a flexible management structure. The IRS, notably, does not have an “LLC” tax category at all. When you form an LLC and do nothing else, the IRS applies default tax rules based on how many owners you have.

An S corporation, by contrast, is purely a tax status. You get it by filing IRS Form 2553 and meeting the eligibility rules. A corporation can elect it, and so can an LLC. Electing S corp status does not change your legal entity. Your LLC stays an LLC under state law. Only the way the IRS taxes your profits changes.

This is why experienced accountants wince at the phrase “LLC vs S corp.” The better question is: should my LLC stay on its default tax treatment, or should it elect S corp taxation? Everything below answers that question.

How a Default LLC Is Taxed

If you are the only owner, the IRS treats your LLC as a disregarded entity. That is a strange phrase for a simple idea: for tax purposes, your business and you are the same taxpayer. Profits flow straight onto your personal return on Schedule C. You pay income tax plus the full 15.3 percent self-employment tax on every dollar of net profit. Nothing is withheld during the year, which is why so many first-year owners get an unpleasant surprise in April.

If your LLC has two or more owners, the default is partnership taxation. The LLC files an information return, Form 1065, and each owner gets a Schedule K-1 showing their share of profit. Each owner then pays income tax and self-employment tax on their share. The mechanics differ, but the headline is the same: all net profit gets hit with that 15.3 percent self-employment tax.

For a full walkthrough of these default rules, see our guide on how LLCs are taxed. If you run a one-owner business, our breakdown of single-member LLC taxes covers the forms and quarterly payments in detail.

How S Corp Taxation Works

An LLC taxed as an S corp is still a pass-through entity. Profits still flow to the owners’ personal returns, and there is no corporate-level income tax. The difference is how the profit is divided.

As an S corp owner who works in the business, you must pay yourself a reasonable salary as a W-2 employee. That salary is subject to payroll taxes, which mirror the 15.3 percent self-employment tax. But any profit left over after your salary can be taken as distributions, and distributions are not subject to self-employment tax. That split is the entire source of the savings.

The IRS lays out the S corporation rules on its S corporations page, including the eligibility limits: no more than 100 shareholders, shareholders must generally be US individuals or qualifying trusts and estates, and the company can have only one class of stock.

The Math: When S Corp Status Saves You Money

Let us run a realistic example. Suppose your LLC nets $120,000 in profit for the year.

On default LLC taxation, you owe 15.3 percent self-employment tax on the full $120,000. That is roughly $18,360, on top of your regular income tax.

Now elect S corp taxation. You pay yourself a reasonable salary of $70,000. Payroll taxes on the salary come to about $10,710. The remaining $50,000 flows to you as distributions with no self-employment tax attached. Your total employment tax bill drops from about $18,360 to about $10,710. That is roughly $7,650 in savings for the year.

But S corp status is not free. You will pay for payroll processing, quarterly payroll filings, unemployment insurance, and a separate business tax return (Form 1120-S) prepared by an accountant. For a small business, those added costs often run $2,000 to $4,000 a year. In our example, you still come out roughly $3,500 to $5,500 ahead. At lower profit levels, the fixed costs eat the savings entirely, which is why accountants talk about an income threshold. Our guide on when your LLC should elect S corp taxation walks through that threshold in detail.

Costs and Hassles That Come With the S Corp Election

The tax savings are real, but they buy you a second job as a payroll administrator. Here is what changes the day your election takes effect.

You must run payroll. That means registering for payroll accounts, withholding federal and state taxes from every paycheck, filing quarterly payroll returns, and issuing yourself a W-2 at year end. Most owners outsource this to a payroll service, which is part of the added cost.

You must file a separate tax return. An S corp files Form 1120-S each year, and each shareholder gets a K-1. Your personal return gets more complex too. Accountant fees for an 1120-S typically run well above a simple Schedule C.

You must keep cleaner books. S corps face stricter expectations around separating business and personal finances, tracking shareholder basis, and documenting that salary properly. Sloppy records that a sole proprietor might get away with become a real audit risk.

Some states add their own surcharges. California, for example, charges S corps a 1.5 percent net income tax with a minimum of $800 per year. New York City does not recognize the S election at all. State quirks can shrink or erase the federal savings, so check your state’s rules before you elect. Our state cost guides, like California LLC costs and New York LLC costs, are a good starting point.

Side-by-Side Comparison

Here is how the two tax treatments stack up on the points that matter most.

• Tax status: Default LLC taxation is pass-through with all profit subject to self-employment tax. S corp taxation is pass-through with profit split between salary and distributions.
• Self-employment tax: On 100 percent of net profit by default. Only on the salary portion under S corp taxation.
• Paperwork: Default is simple: Schedule C or a partnership return. S corp adds payroll, quarterly filings, and Form 1120-S.
• Annual compliance cost: Low by default. Typically $2,000 to $4,000 more per year as an S corp.
• Best for: Default suits early-stage businesses and modest profits. S corp suits established businesses with consistent profits comfortably above the threshold.

If you want the fuller picture of tradeoffs with worked numbers, read our analysis of LLC taxed as S corp pros, cons, and real numbers.

Which Should You Choose?

Start with the default. If your business is new, growing, or netting under roughly $50,000 to $60,000 a year, the S corp election will usually cost you more than it saves. Keep things simple, pay your quarterly estimated taxes, and revisit the question as profits grow.

Elect S corp taxation when your net profit consistently clears the threshold and a reasonable salary still leaves meaningful profit to distribute. The classic candidate is a freelancer, consultant, or agency owner netting $80,000 or more with steady income. Before you file anything, have an accountant run your specific numbers, because payroll costs, state taxes, and your salary level all move the break-even point.

One more thing to keep straight: electing S corp taxation does not change your liability protection, your state filing obligations, or your registered agent requirements. It is a tax decision, not a legal upgrade. The SBA’s guide to business structures is a solid neutral overview if you want a second opinion on the fundamentals.

Frequently Asked Questions

Is an S corp better than an LLC?

That compares a tax election to a legal entity, so the question needs reframing. The real choice is between default LLC taxation and electing S corp taxation for your LLC. Default is simpler and cheaper at low profits. The S corp election saves on self-employment tax once profits are high enough to cover the added payroll and filing costs.

Can an LLC be taxed as an S corp?

Yes. Any eligible LLC can elect S corp taxation by filing IRS Form 2553, as long as it meets the S corporation requirements: 100 or fewer shareholders, eligible shareholder types, and one class of stock. The LLC remains an LLC under state law.

How much money do you save with an S corp?

It depends on your profit and your salary. A common rule of thumb is that you save 15.3 percent on every dollar of profit above your reasonable salary, minus the added compliance costs of roughly $2,000 to $4,000 per year. At $120,000 in profit with a $70,000 salary, net savings often land between $3,500 and $5,500.

What is the downside of S corp taxation?

Added complexity and cost. You must run payroll, file quarterly payroll returns, file a separate Form 1120-S, keep stricter books, and pay yourself a defensible salary. The IRS watches S corp salaries closely, and setting yours too low can trigger reclassification and penalties. Our explainer on the S corp reasonable salary rule covers that risk.

Do I need an S corp to save on taxes as a freelancer?

No. Freelancers can deduct business expenses under default LLC taxation just like anyone else. The S corp election only helps once your net profit is high enough that the self-employment tax savings exceed the payroll and accounting costs. Below that point, it is an expense, not a strategy.