LLC Taxed as S-Corp (Form 2553)

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LLC Taxed as an S-Corp (Form 2553)

Note: Before you begin changing your LLC’s tax status with the IRS, we recommend speaking with an accountant. The best way for businesses to be taxed varies widely.

Table of contents:
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What is an S-Corp? (definition)

S-Corp is short for S-Corporation, also known as an “S Corp”, “S Corporation”, or “Subchapter S Corporation”.

An S-Corporation is different than an LLC or Corporation (C-Corporation) in that it is a “tax entity”, not a legal entity formed at the state-level.

The term “tax entity” means it’s a tax classification status made with the IRS.

The S-Corporation election is made with the IRS and then “sits on top of” your legal entity; either your LLC or your C-Corporation.

An S-Corporation is a “pass through” tax entity, so it is not subject to double taxation like a C-Corporation. Any income, losses, credits, and deductions flow through to the owners of an S-Corporation (called shareholders) and will be reported and paid for on their personal tax return.

Just like an LLC and a C-Corporation, an S-Corporation offers personal liability protection to its owners. Their personal assets (like homes, vehicles, and bank accounts) are protected in the event of a lawsuit and cannot be used to pay off the debts or liabilities incurred by the S-Corporation.

A lot of people use the term “forming an S-Corporation” and this causes a lot of confusion.

Forming” an S-Corp vs. “Setting up” an S-Corp

Again, unlike an LLC or a Corporation, which is a business entity created at the state-level, an S-Corporation is a tax entity selection made with the IRS.

Therefore, you can’t form an S-Corporation. Instead, you elect to have your already-formed entity taxed as an S-Corporation with the IRS.

Meaning, you first need to form an LLC or a Corporation (making the appropriate filing with your state’s Secretary of State office), then elect to have that entity taxed as an S-Corporation with the IRS.

I highlighted “taxed as” because that is the proper verb, not “form” an S-Corp. There is no filing in any of the 50 states to “form an S-Corp“. A better way to refer to this is “setting up an S-Corp“.

Again, “forming an S-Corp” simply means taking an existing entity and changing its tax status with the IRS.

Having said that, traditionally speaking, when people say “form an S-Corp”, they actually mean form a Corporation (also known as C-Corporation) with the state, then elect for the C-Corporation to be taxed as an S-Corporation by the IRS. However, an LLC can also elect to be taxed as an S-Corporation with the IRS, and is a very common tax classification made by LLCs whose net income begins approaching $75,000 to $100,000 per year.

Note: This lesson will focus on LLCs taxed as S-Corporations, not Corporations taxed as S-Corporations.

LLC Tax Classification with the IRS

LLCs have a default tax status with the IRS, depending on how many members there are:

• If you have a Single-Member LLC (1 owner), then the IRS will tax it as a Disregarded Entity/Sole Proprietorship.

• If you have a Multi-Member LLC (2 or more owners), then the IRS will tax it as a Partnership instead.

Alternatively, you can tell the IRS to tax you as a Corporation by filing an additional form after getting an EIN for your LLC. There are two different ways you can have your LLC taxed as a Corporation:

• You can have your LLC taxed as an S-Corporation by filing Form 2553 (which we’ll discuss in this lesson).

• You can have your LLC taxed as a C-Corporation by filing Form 8832.

S-Corporations are becoming very popular for small business owners (with adequate net income), but S-Corporations are also the least understood (and people usually jump into them too fast).

Let’s now discuss the S-Corporation advantages and disadvantages.

S-Corp Benefits

The primary benefit of an LLC taxed as an S-Corporation is saving money on self-employment taxes.

Self-employment tax refers to Social Security and Medicare taxes, which total 15.3% of your net income (income minus expenses). The breakdown is 12.4% for Social Security tax and 2.9% for Medicare tax.

These taxes are paid to the Social Security Administration and you’ll report self-employment tax as a part of your personal federal tax return (Form 1040) on Schedule SE.

The way an S-Corporation saves money on self-employment taxes is by “splitting your income” into two groups:

  • salary (also called wage or payroll) and
  • distribution (also called dividend or profit)

Once your LLC is taxed as an S-Corporation you become an “employee-owner” (also referred to as a “shareholder-owner”). You both own your company and work for your company.

With this “income splitting”, you only have to pay the 15.3% self-employment tax on your salary. Your extra money left over (called distributions) is not subject to self-employment tax.

This is unlike an LLC taxed as a Sole Proprietorship or Partnership. In these tax classifications, you pay self-employment tax on all of your net income and there is no option to split your income and save money on self-employment tax.

However, the IRS is not an idiot and they know that there is a slight loophole in the S-Corporation tax election. Therefore, they require you to take what’s called a “reasonable salary”, which we’ll discuss more in a bit.

Let’s first look at an example:

Let’s say your LLC is a web design business and has a gross income of $120,000 and your expenses are $20,000. Your net income is therefore $100,000.

You and your accountant decide on a reasonable salary of $60,000 per year, which is average for your industry.

You’ll end up paying 15.3% self-employment tax on the $60,000 wage, but the remaining $40,000 in distributions (profit) will not be subject to the 15.3% self-employment tax, therefore you’ll save $6,120 in taxes.

Now it’s not pure tax savings though. Your administrative costs will offset your savings a little, however, for most businesses with a net income of $75,000 to $100,000 per year (or more), the tax savings are usually still greater than the expenses.

Here are your S-Corp administrative responsibilities:

  • you have to run payroll,
  • you have to file quarterly payroll returns (federal and state),
  • you have to keep accurate books and a balance sheet, and
  • you should hire an accountant to file your corporate tax return (Form 1120S, K-1s for shareholders/owners, and any additional Schedules)

Also, depending on the number of employees you have and in what state you’re located, you’ll also need to take care of federal unemployment insurance, state unemployment insurance, and workers’ compensation insurance.

Note: Payroll is complex. There are 5-10 federal payroll forms and 5-10 state payroll forms that need to be filed. We recommend asking your accountant for a recommendation or using a payroll company, like Gusto Payroll.

The costs of the above will vary depending on your business and situation, but as a per-year-ballpark, payroll can cost $400 to $600, accounting and bookkeeping also at $400 to $600, and tax prep services paid to your accountant can range from $700 to $1,000.

So overall, your administrative costs may be $1,500 to $2,500 (maybe up to $3,000 in some cases). So you spend $3,000 to save $6,120, for a net tax savings of $3,120.

And granted, the higher your company’s profits, the more you can save on self-employment tax.

If you need help with payroll, we recommend Gusto Payroll. And to manage your accounting, we recommend Xero or QuickBooks.

But that’s not all there is consider. There are also disadvantages to S-Corp taxation.

Disadvantages of S-Corporation

Although you can save money with an S-Corporation, it’s important to understand the other side of the coin.

Higher audit risk:
S-Corporations are more closely watched by the IRS so make sure you are actually taking a reasonable salary and filing your federal and state taxes correctly.

Social Security benefits:
Your Social Security benefits are based off the salary you take over your working career. In an S-Corporation, that means your Social Security benefits are based off the salary you pay yourself. The distribution of profits you pay to yourself do not count. So although you’ll be saving money on self-employment taxes by taking a lower salary now, you could be reducing your Social Security benefits in the future.

Lower mortgage pre-approval:
When purchasing a home with a traditional mortgage, the bank will look at your income to determine how much you can afford. They’ll only be looking at the salary paid by your S-Corporation and not the dividends. So making your salary too low could hurt your ability to purchase a more expensive home.

Self-employed retirement account contributions:
If you have a self-employed retirement account (like an SEP, simple IRA, solo 401(k), or Keoghs), the contributions you can make are based off the salary your S-Corporation pays you. Not only does making these retirement account contributions reduce your tax burden, they also help you maximize your retirement funds. For additional reading, see this article by The Tax Advisor.

Recommendation:
As you can see, the S-Corporation tax savings are not always 100% beneficial. We recommend speaking with an accountant regarding saving money on taxes while balancing that with long-term tax and retirement strategies.

S-Corporation owner-employee & reasonable salary

At this point, you may be thinking, “How do I determine a reasonable salary?”

Here are some factors to consider:

  • experience, training, and certifications
  • duties and responsibilities
  • history of prior dividend payouts
  • the time and effort you provide to the business
  • how much you pay regular employees (if applicable)
  • what similar business pay employees for similar services
  • if there is use of a formula to determine compensation

As a general rule of thumb, it’s good to document how your time is spent in the business, and what the appropriate salary is for each of those activities.

For example, let’s say you spend 50% of your time on web design, 25% on marketing, and 25% on customer service. And let’s also assume you work a 40-hour workweek and work 50 weeks per year (taking a 2-week vacation).

Here’s a recommendation:

Visit two sites which list salaries, such as Salary.com and Indeed.com.

Find the salary of each role on the above 2 sites and average them out. We recommend printing/saving your findings for good documentation.

In our example:
– a web designer’s average salary came to $65,000 per year,
– a marketing coordinator’s salary came to $46,500 per year, and
– a customer service representative’s salary came to $32,600 per year.

We then took 50% of the web design salary ($32,500), 25% of the marketing coordinator salary ($11,625), and 25% of the customer service representative salary ($8,150) to arrive at a total salary of $52,275.

Of course this is just an example. There are many factors to consider when determining your S-Corporation salary. We recommend speaking with your accountant, and however you determine your salary, make sure you document it in case of an audit in the future. It’s also advisable to draft and sign a compensation agreement between you and your S-Corporation.

General rules:
• Some tax advisors recommend keeping your distributions no more than 3x your salary. For example, if your net income is $150,000, your salary is $50,000 and your distributions are $100,000.
• More conservative tax advisors say to keep your distributions at 50% of your net income. For example, if your net income is $150,000, your salary is $75,000 and your distributions are $75,000.

The IRS can reclassify distributions:
On another note regarding S-Corporation reasonable compensation, it’s important to remember that if at some point, the IRS determines that your salary is not reasonable, they can reclassify the distributions you already took, tax them, and add on penalties, interest, and fines.

These federal cases show the IRS’ ability to reclassify distributions:
https://www.ustaxcourt.gov/InOpHistoric/vetsurg.TC.WPD.pdf (Veterinary vs. IRS)
http://media.ca8.uscourts.gov/opndir/12/02/111589P.pdf (Watson vs. USA)
https://www.ustaxcourt.gov/InOpHistoric/JOLY.TCM.WPD.pdf (Joly vs. IRS)
https://www.ustaxcourt.gov/InOpHistoric/Gre5y.TC.WPD.pdf (Great Public Accountant vs. IRS)

When to file Form 2553 (timing)

The time for filing Form 2553 will depend on whether your LLC is newly-formed or already existing.

For already-existing LLCs:
If you want to make your LLC’s S-Corp status effective for a given tax year, you have to file Form 2553 within 2 months and 15 days from the beginning of that year.

If you file beyond that given period, the effectivity will start the next tax year.

Example: Your LLC (assuming the beginning of its next tax year starts January 1st, 2018) must file Form 2553 on or before March 15th, 2018. If you file within that period, then the S-Corp status takes effect in the 2018 tax year. If you file after March 15th, then the status takes effect in the 2019 tax year instead.

For newly-formed LLCs:
You have to file within 2 months and 15 days from the date of your LLC’s date of formation in order for the changes to take effect in its first tax year.

Example: If your LLC was formed on April 10th, 2018, then you have until June 25th, 2018 to file Form 2553 for the S-Corp status to take effect for the 2018 tax year. If you file after June 25th, then the status takes effect in the 2019 tax year instead.

How do you know if your LLC is already-existing or newly-formed?
• If your LLC has already had a prior tax year, then your LLC is already-existing.
• If your LLC has not had a prior tax year, then your LLC is newly-formed.

Late election of S-Corp status

If you filed your Form 2553 beyond the two-month-and-15-day window but want your LLC’s S-Corp status to take effect for that current tax year, you must prove that the late filing was due to a “reasonable cause.”

So as long as you have a “reasonable cause” and your LLC meets the IRS requirements, the IRS will usually grant your LLC S-Corp status to take effect in its current tax year.

We recommend speaking with your accountant about the details, but you can see the common reasonable cause example of “blaming your accountant” below.

Special note to add in the top margin:
• If you are making the S-Corp late election when filing Form 2553 (but don’t need to file Form 1120S), write “FILED PURSUANT TO REV. PROC. 2013-30” at the top of page 1 of Form 2553.

• If you are making the S-Corp late election when filing Form 2553 along with Form 1120S, write “INCLUDES LATE ELECTION(S) FILED PURSUANT TO REV. PROC. 2013-30” at the top of page 1 of Form 1120S.

Don’t go S-Corp too fast

Although having your LLC taxed as an S-Corp sounds amazing at first glance, it’s important to proceed with caution and not move too fast.

Many small business owners may be able to save money on taxes by keeping their LLC in its default tax status (taxed as a Sole Proprietorship or taxed as a Partnership) for the first few years until net income increases.

You want to make sure your LLC is consistently hitting net income levels that are above what the LLC Member(s) reasonable salary would be.

Requirements for S-Corp

Note: In this context below (since your LLC will be taxed as an S-Corp), a shareholder of an S-Corporation is the same thing as an owner/member of an LLC.

In order for your LLC to be eligible to be taxed as an S-Corp, it must meet the following requirements:

1. US entity. Your LLC must be formed in the United States and cannot be a company that was formed or organized outside of the US.

2. 100 shareholders. You’ll often see this rule written as “your S-Corporation can’t have more than 100 shareholders”. In the context of an LLC taxed as an S-Corporation, this means your LLC cannot have more than 100 members.

3. Class of stock. The company can only have 1 class of stock. Sometimes companies have different classes of stock which have different rights and privileges. All shareholders (owners) of an S-Corporation must all receive the same privileges of ownership.

4. Eligible shareholders. Under the IRS rules, an S-Corporation can only have eligible owners/shareholders.

Who Can Own an S-Corp?

The following are allowed to be owners (shareholders) of an S-Corporation:

– US citizen
– US trust
– US estate
– US resident alien (must have Green Card/Form I-551 or pass “substantial presence test”)
– US tax-exempt organizations (must qualify under 26 US Code § 401(a), 501(a), or 501(c)(3))

The following are not allowed to be owners (shareholders) of an S-Corporation:

– non-resident alien
– foreign company
– c-corporation
– partnership
– financial institution
– insurance company
domestic international sales corporation

Can a Foreigner Own an S-Corporation?

Yes, a foreigner can own an S-Corporation, but it depends. For more clarification on what type of “foreigners” can own an S-Corporation, see here:
https://www.llcuniversity.com/irs/can-a-foreigner-own-an-s-corp/

Converting from LLC to S-Corp

A lot of our readers ask us how to convert an LLC to an S-Corporation. We just want to add this section as clarity.

Just like “forming an S-Corp” is not the correct expression, “converting from LLC to S-Corp” is also not the correct expression and it can lead to a lot of confusion.

The legal and state entity (the LLC) remains the same. You are just changing the way in which the IRS taxes your LLC. The LLC does not go away. Remember, by default, LLCs with 1 owner are taxed as a Sole Proprietorship and LLCs with 2 or more owners are taxed as a Partnership.

By filing Form 2553 with the IRS (instructions below) you are simply changing the default tax classification of the LLC (from either Sole Proprietorship or Partnership) to S-Corporation, under Subchapter S of the IRS Revenue Code.

Instructions: How to fill out Form 2553

Note: You can cross-reference any information listed below with the IRS’s Form 2553 instructions. As mentioned earlier, we recommend you work with an accountant on electing to have your LLC taxed as an S-Corporation. Besides filing Form 2553, you also need to take payroll, file payroll tax returns, file a corporate return for your S-Corporation (Form 1120S), and manage your books.

Additionally, the instructions below are for an LLC electing to be taxed as an S-Corp (not a Corporation electing to be taxed as an S-Corp).

Get started:
Download IRS Form 2553 and save to your computer.

If you’d also like to download a completed sample form, please download this file as well: LLC taxed as S-Corp Form 2553 example

Part 1 – Election Information

Name:
Enter your complete LLC name in this section.

Employer Identification Number (A):
Enter your LLC’s EIN Number in this section. You’ll need an EIN in order to make the S-Corporation tax election.

Street Address and City, Town, Zip:
Enter the street or mailing address for your LLC. This can be the same address you used when you applied for your EIN, but it doesn’t have to be. If this is an updated address you’re using with the IRS, check off the “address box” in D.

Date incorporated (B):
Enter the date your LLC was formed. You can find this date on your stamped and approved Articles of Organization (or Certificate of Organization or Certificate of Formation) or by searching your LLC name on your state’s LLC name search database.

State of incorporation (C):
Enter the state where you formed your LLC.

D (Changes):
If you’re using a new address with the IRS, check off the “address” box. If you’ve changed your LLC name with the state since forming your LLC, check off the “name” box.

E (Election is to be effective):
Enter the tax year that you’d like your LLC to be taxed as an S-Corp. For example, if you’d like your LLC to be taxed as an S-Corp in the 2018 tax year, enter “01/01/2018”.

F (Selected tax year):
Choose your tax year. Most filers check off the first box for “Calendar year”.

G (Treating members of a family as one shareholder):
This section applies if your LLC has more than 100 members (also known as your S-Corporation having more than 100 shareholders). If your S-Corporation has more than 100 shareholders, please review the instructions. For most filers, their S-Corporations do not have more than 100 shareholders, so this box will be left unchecked.

H (Name and title of officer):
Enter your contact information and title in case the IRS has any questions. For example, you can enter “John Doe, Member” or “John Doe, Owner”.

I (Phone number):
Enter your cell, office, or home telephone number.

Multi-line explanation section:
This multi-line section is only needed if you are making a late S-Corp election (after the due date). If that’s the case, you need to include a reason, and often, the IRS is fairly flexible on accepting Form 2553 after the deadline.

A common strategy to use is the “blame the accountant” method. Here’s example text you could use: “LLC intended to make the S-election. Accountant did not provide the recommendation on time.

Signature, Title and Date:
Enter “Member” or “Owner” for the title, and the date which you are completing the form. After you print the form, make sure to sign it.

Part 1 – Election Information (continued) [page 2]

On page 2 you are going to list all of your LLC owners.

In column J, you’re going to list each person’s full name and address.

In column K, you’re going to have each person sign and enter today’s date.

In column L, you’re going to list the percentage of ownership and the date which the ownership was acquired. If you have 1 member in your LLC, the percentage would be 100%. If you have 2 members in your LLC, each person would enter 50%. For the date acquired, you can use the date your LLC was formed (which you also entered in box B).

In column M, list each person’s Social Security Number.

In column N, enter each person’s calendar year. This will be “12/31”.

For most filers, there is nothing else you need to do with the form. You can skip ahead to the mailing/fax instructions.

Part 2 – Selection of Fiscal Year (O, P, Q, and R):
This section does not apply to most filers, so they leave everything blank, however make sure to review your filing and speak to your accountant if anything in this section needs to be completed.

Part 3 – Qualified Subchapter S Trust (QSST):
This section does not apply to most filers, so they leave everything blank, however make sure to review your filing and speak to your accountant if anything in this section needs to be completed.

Where to mail or fax Form 2553

Once you complete Form 2553 and sign it, you’re ready to send it to the IRS. You can either send Form 2553 by mail or by fax.

Where you mail or fax Form 2553 is determined by the state where your LLC was formed or the state where your LLC is registered to do business (if your LLC is a Foreign LLC). ddd

Please visit the following page on the IRS’s website to determine where to mail or fax Form 2553: https://www.irs.gov/filing/where-to-file-your-taxes-for-form-2553

Tip:
For faster approval, fax Form 2553 to the IRS using a digital fax service such as Phone.com ($10). They have great customer support and will help you set up your digital fax in just a few minutes.

S-Corp approval letter

Please allow 45 to 60 days for the IRS to mail you back your S-Corp election approval letter.

If your LLC’s S-Corp election is approved you will receive a CP261 Notice.

We recommend making a few copies of the CP261 Notice and keeping them with your LLC’s records. Make some physical copies as well as some digital copies.

If your LLC’s S-Corp election is denied you will receive a CP264 Notice. You’ll then need to speak with the IRS and/or your accountant to see what the cause was and if/when you should re-file Form 2553.

If you lose your CP261 Notice, you can also call the IRS (800-829-4933) and request an “S-Corp Verification Letter”, technically known as a 385C. The CP261 can only be generated once (it’s auto-generated internally at the IRS), however the CP261 and 385C have the same effect. The 385C will arrive by mail 7 to 14 days after you call.

IRS Form 1120S and other S-Corp Taxes

An S-Corporation is a “pass through” tax entity in that it doesn’t pay federal taxes at the corporate level. The profits, losses, credits, and deductions from the S-Corporation “flow through” to the individual shareholders’ (owners) personal tax return and they are responsible for paying the tax.

However, the S-Corporation still needs to file what’s known as an “informational return”. That includes filing Form 1120S as well as issue K-1s to each of the S-Corp shareholders.

For 90+% of LLCs which operate on the calendar year (Jan. 1 to Dec. 31), the S-Corp tax return will be due by March 15th each year. And like personal tax returns, if your S-Corporation needs an extension, you can file Form 7004.

There are also additional tax forms your S-Corporation must file in order to report taxes paid from payroll (withholding income tax, Social Security, and Medicare). This is filed on Form 941. And Form 940 will be used for federal unemployment tax.

The IRS is very strict about due dates and has the right to impose penalties if your S-Corp tax return is late (or missing information). If no tax is due and you need to file an informational return only the IRS can charge $195 per month per person. If there is a tax due, it’s $195 per month per person plus 5% of the unpaid tax for each month it’s late. This is just an overview though. For more info please see the “Interest and Penalties” section of Form 1120S instructions.

Calculating your S-Corporation’s tax obligations and correctly filing all IRS forms can be complicated, and if done improperly, can lead to IRS penalties, fines, and interest.

As mentioned throughout this lesson, we recommend you work closely with an accountant to make sure you file your S-Corporation taxes properly as well as keep your S-Corporation in compliance with any other IRS requirements.

State S-Corp Tax Filings

Depending on the state where you formed your LLC, you may also need to file an S-Corp state-level tax return (in addition to your federal return) as well as state unemployment insurance.

Please get in contact with your state’s Department of Revenue or speak to your accountant for details.

How an LLC can revoke its S-Corp election

If you currently have an LLC taxed as an S-Corp but you’d like to cancel this tax election with the IRS, this is called a “Voluntary Revocation of S-Corporation Status”.

You need to send 3 items to the IRS if your LLC wants to revoke its S-Corp status:

  • Letter of Revocation of S-Corporation Election
  • Statement of Consent of LLC Members for S Election Revocation
  • IRS Form 8832

You can find the download links and the instructions to the above forms on this page: https://www.llcuniversity.com/irs/llc-revoke-s-corp-election/

IRS Phone Number & Contact Information

If you have any questions regarding your LLC being taxed as an S-Corp, or how to fill out Form 2553, you can call the IRS at 800-829-4933. You can find additional IRS phone numbers at this link: https://www.irs.gov/help/telephone-assistance

IRS phone support is available from 7am to 7pm, Monday through Friday. For shorter hold time, we recommend calling earlier in the morning.

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Matt Horwitz
Founder & Educator at LLC University
Forming an LLC shouldn't be so complicated. Our step-by-step guide will make the process a breeze – and no complex legal jargon! We teach people how to form an LLC for free in all 50 states. We hope you find our free guides and resources helpful in your entrepreneurial journey.

70 Comments

  1. Sylenda February 15, 2018

    This was so helpful. Thanks so very much for making this simple to understand! I personally appreciate the help. Thanks again!

    reply
    • Matt Horwitz February 21, 2018

      You’re very welcome Sylenda :) Thank you for the nice comment!

      reply
  2. Andy February 18, 2018

    you should write text books; outstanding, complete and simple to understand. nicely done.

    reply
    • Matt Horwitz February 21, 2018

      Thanks so much Andy. What a great comment to receive!

      reply
  3. Nina February 27, 2018

    This article literally answered most of my questions. Thank you so very much! the only other question I have is: “Do all of the rules above apply to a Florida LLC electing as an S-Corp?”

    Thanks

    reply
    • Matt Horwitz February 27, 2018

      Hi Nina, that’s great to hear. You’re welcome! Do you have a specific question instead? That would be easier. Thanks.

      reply
  4. Stephanie Wilser February 28, 2018

    Truly the most comprehensive, well written explanation I’ve found. And I’ve been looking for a long time!

    reply
    • Matt Horwitz February 28, 2018

      Stephanie, thanks so much for your note! It’s comments like yours that make the “work” worth it. It’s the fuel we need to continue producing the most helpful and most comprehensive guides. It took a tremendous effort. So we very much appreciate your gratitude!

      reply
  5. Becca February 28, 2018

    I formed an LLC last year and did the SCorp election admittedly rather blindly when someone told me I should. However, for me, it seems to have caused more harm than good in all the confusion it causes with taxes. (My husband has been attempting to do my counting and taxes to save the accounting fees since my LLC is just a part time business for me.) I read the article above and it all makes sense, but my income level is not sufficient to gain the benefit from the SCorp election. Is there a way to revoke it and go back to taxing as a sole proprietor in subsequent years?

    reply
    • Matt Horwitz March 2, 2018

      Hi Becca, yes, you can revoke the LLC being taxed as an S-Corp. If you have a Single-member LLC you’ll be reverting to taxation as a Sole Proprietorship. If you have a Multi-member LLC, you’ll be reverting to taxation as a Partnership. An LLC revoking its S-Corp election is also known as a “Voluntary Revocation of S-Corporation Status” (which essentially “reverses” what Form 2553 did). There isn’t one specific form to send to the IRS to “Cancel an S-Corp election”, but instead you need to send the IRS 3 things:

      1.) Letter of Revocation of S-Corporation Election
      2.) Statement of Consent of LLC Members for S Election Revocation
      3.) IRS Form 8832

      You can find the instructions and download links to these forms here: LLC Revoking S-Corp Election with IRS. Hope that helps!

      reply
    • Matt Horwitz April 10, 2018

      Hi Becca, I just updated my initial reply to you. We’ve since created a lesson on how an LLC can revoke its S-Corp status. You can find that lesson here: LLC revoking S-Corporation election. Hope it helps!

      reply
  6. Alec March 3, 2018

    This is the best written article I could find on this subject. Thank you for much for making LLC un-complicated!

    Question: When trying to determine if it’s worth taxing my single member LLC as a S-Corp, is there a calculator or spreadsheet model you’d recommend?

    The calculators I find online simply compute the difference in tax between sole proprietor and s-corp tax. But what they don’t account for is the lost benefit of the SEP IRA tax deduction, the added cost of administering tax filings, etc, among other things. My goal is to determine at what business income level it’s really worth changing to S-Corp taxation.

    I’ve used calculators such as https://www.myllc.com/corporation-calculator.aspx. Assuming a business income of 200K and a salary of $120K, it says I’d save only $2.3K going with an S-Corp taxation, not taking into account standard deductions. If I get taxed as a sole proprietor, however, I could more to my SEP IRA — that is I could contribute 40K to my SEP IRA (20% x 200K) instead of $24K (20% x $120K), thus reducing my taxable income by $26K, which therefore reduces my tax by at least as much as I’d save If were to get taxed as an S-Corp. Am I missing something?

    I think it would be super helpful to many to find a spreadsheet or calculator that would help determine the true quantitative cost/benefit.

    Super thanks again.

    reply
    • Matt Horwitz March 3, 2018

      Hi Alec, thank you for the great comment! We’ve worked hard to make things easy ;) We don’t have a spreadsheet model yet, but it’s a great suggestion. Thank you! Simple rule of thumb is once net income is 75k to 100k annually, LLC taxed as S-Corp usually makes sense, but in your case, regarding the SEP IRA contributions and other factors, best thing to do is call an accountant and dive a bit deeper. I know “call an accountant” isn’t usually the most actionable advice, but have something called the “knights of the roundtable” strategy where you can ask your question to a handful of people, get the proper answer(s), and then possible begin working with someone if/when needed. The details of that are included in the link from the prior sentence. I’m curious to hear what you come up with though, so feel free to keep me posted if you’d like. Hope that helps!

      reply
      • Alec March 5, 2018

        Thank you for your reply. Really appreciate it.

        I found an online calculator that accounts for SEP, HSA contribution, etc. I’m can’t sure how accurate or up-to-date it is but it’s helpful nonetheless.

        https://evergreensmallbusiness.com/s-corporation-tax-savings-calculator/

        As I was reading up on pros and cons s-corp vs single-member LLC, some other considerations came to light:

        — S-Corp allows you to make HSA contributions (up to $7.9K for families), which are tax-exempt. I don’t believe a single member LLC can do that.

        — S-Corp also allows those 50+ or older to do catch up IRA contributions of $6K, which can be tax-deferred.

        –S-Corp, if combined with a Solo 401K, allows your business to contribute up to 25% of your wage to you solo 401K plan, while you individually can contribute up to $18.6K (plus $6K if you’re over 50). You can’t use a Solo 401K with a single-member LLC.

        So the total and maximum tax-advantaged contributions of HSA and solo 401K can be greater than what than what a single-member LLC with SEP IRA can do.

        The downside I learned about S-Corps is that in some states like mine, California, the state tax is much higher than that for a single-member LLC. It depends however on your profit margin (In California, single member LLCs pay a fee based on “revenue”, while s-corps are taxed on business “profit” (net income.)

        reply
        • Matt Horwitz March 10, 2018

          Hey Alec! Thanks for this thoughtfully written followup! You’re absolutely correct. There are far more details that go into the taxation of an LLC taxed as an S-Corp. A big one is the larger amounts of tax-advantaged contributions one can make. We will consider expanding upon these in the article. Thanks so much for helping make this article even better!

          reply
  7. Ryan March 9, 2018

    Matt, thank you so much for this guide. I’ve read through all of it and it is VERY helpful. I’ve been obsessively reading about how to start an S corporation for the past few days and this article is definitely the most concise and easy to follow. I’m adding this to my favorites as it’s a great blueprint that I’m sure will I’ll need to come back to a few times as a refresher. I do have 3 questions regarding payroll, payroll related taxes, and quarterly income taxes if you don’t mind (and I really do appreciate it so much):

    #1. Form 941. The IRS says employers use this form to “Report income taxes, social security tax, or Medicare tax withheld from employee’s paychecks.” and “Pay the employer’s portion of social security or Medicare tax.”……. My question is, if I’m just reporting the tax withheld from the employee’s paycheck, and paying only the employer’s portion, when does that withheld amount actually get paid to the IRS, and through what form?

    #2. When a payroll service such as Gusto or Intuit says they do the tax form completion and filing for you, what all does that typically encompass? Does this mean I don’t have to do *any* payroll related filings myself, such as form 941?

    #3. And finally… income tax. I will be a 1 person company, so I am planning on withholding my federal, state, social security and medicare taxes from my salary. My 1st and 2nd questions asked about the 2 latter, but when do federal and state taxes get paid, and through what form? I’m guessing this has to be done quarterly, but since I won’t be doing that like I would with a sole proprietorship (since I will have a paycheck that the S corp already withheld taxes from), it makes it a little confusing.

    I’m trying to make a simple list of every single form I will need to file throughout the year for a very simple, typical, 1 person LLC taxed as an S corp in Oklahoma. So far, I have the initial 2553 for S corp taxation election, 941 for reporting withheld SS and medicare taxes + paying the employer portion (quarterly), 940 for unemployment taxes (annual, since I am only 1 employee), and 1120s and K1 for end-of-the-year federal income taxes. I feel like I’m making progress on knowing what to do on the federal level, but I haven’t even hardly begun to learn what to do on the state level.

    Thanks again

    reply
    • Matt Horwitz March 19, 2018

      Hi Ryan, you’re very welcome! Thank you for your thoughtful and well-structured comment.

      1. I’m not sure on this as our accountant handles the details.
      2. Yes, it should mean that you don’t have to do any payroll related filings yourself. I’d email or call the potential payroll companies, but it usually entails the following:
      – Federal Forms 941 (quarterly) and 940 (annually)
      – Annual Federal W-3 and W-2(s)
      – State W-3 and W-2s (if applicable)
      – State Unemployment returns (quarterly)
      – State withholding (if applicable)
      3. Your federal and state taxes will likely be paid quarterly. Exactly what forms will depend on the details of your entire return. I recommend speaking with a few accountants for a more in-depth look.

      Apologies I couldn’t provide more black and white answers. Overall, you have a great grasp of the situation, but taxes vary widely from person to persona and from business to business. Thanks for your understanding.

      reply
  8. Greg March 21, 2018

    I have a specific question; I just filed 2553 to convert my existing 1 person LLC taxation status to an S corp on 03/15/18 (the deadline) and want the status to be for 2018, but it sounds like there is a chance the IRS does not accept it? I wont know for 60 days, but at that point I will have missed both quarterly filing requirements. What is the recommendation in this case? Hope it went through and file quarter 1 with salary info for myself and unemployment tax payments? Sounds like a mess if I get a denial letter and none of those things are valid.

    reply
    • Greg March 21, 2018

      by “both quarterly filing requirements” I mean state & federal

      reply
      • Matt Horwitz March 27, 2018

        Hi Greg, it’s very likely your LLC’s S-Corporation Election will be granted, however, if it’s not, and you’ve already filed Q1, you can always file Form 941-X (“Adjusted Employer’s QUARTERLY Federal Tax Return or Claim for Refund”), and just get a credit or refund. Your state likely has a similar form for an overpayment. The IRS and state Departments of Revenue don’t just “steal” money if it’s overpaid. It usually just sits on the account as a credit. Hope that helps.

        reply
  9. Melissa March 26, 2018

    So I currently have an LLC. If I want to keep it an LLC but be treated as an S Corp for tax purposes, is it already too late for that to be effective for 2018 taxes?

    reply
    • Matt Horwitz March 26, 2018

      Hey Melissa, it’s past the “deadline”, but the deadline is pretty loose and the IRS usually grants “late relief” to LLCs electing S-Corporation status. Check out the section above titled “Late election of S-Corp status”. It talks just about this. I’d still mail off 2553 and see what they say!

      reply
  10. Steve April 5, 2018

    Hi Matt,
    Great read, thanks!
    Quick question — if 2553 simply changes the way an LLC is handled from a tax standpoint (now as an S-Corp) then what goes on the 1120-S? The single member LLC (owner) is “not an officer of a corporation” but it seems as if the 1120-S demands their be an “officer” listed. Then was about wages paid from the company to the owner? Are these “officer” payments even those the owner is not technically an officer of a corp?
    Thanks in advance!

    reply
    • Matt Horwitz April 5, 2018

      Hey Steve, thanks! Form 2553 creates the S-Corporation election. 1120S is the annual tax return for the corporation (the LLC). The owner of an LLC taxed as an S-Corp becomes a W-2 employee (in addition to the owner) and must take payroll. We first recommend speaking with an account to make sure S-Corp taxation is right for the LLC, then working with a payroll company (I like Gusto), then working with your accountant each year to have the 1120S (in addition to all other federal, state, and local returns) filed property. Hope that helps!

      reply
      • Steve April 5, 2018

        Thanks. I know this. What I mean is, does the W-2 income go on line 8 of Form 1120-S or on line 7 (as compensation of officers).
        Technically, the entity is still an LLC so the person is not an officer of a corporation (see what I mean)?

        reply
        • Matt Horwitz April 5, 2018

          Hi Steve, I do see what you mean, however we cannot give information out on what goes on what line of a tax return. Thanks for your understanding :)

          reply
  11. Tina Atalig April 10, 2018

    For 2018, I filed 2553 to convert existing California LLC to S Corp for a single owner (shareholder). S Corp is going to pay salary to the single shareholder. For the purposes of registering for a payroll tax account with federal and state agencies, does the company register for payroll tax account as an LLC or an S Corp? The current EIN and California SOS is for the LLC, and the company was formed as an LLC, only taxed an S Corp. Can you please help clarify how this company should file for payroll tax purposes – as an LLC or as an S Corp?

    reply
    • Matt Horwitz April 11, 2018

      Hi Tina, your LLC is taxed as an S-Corp with the IRS and that election is “attached” to your LLC’s EIN. So when you say “the current EIN and California SOS is for the LLC”, I’m not sure what that means because it doesn’t make sense. Let’s break it into two parts. First, “the current EIN is for the LLC”. Well, not exactly. The current EIN was for the LLC taxed in its default status (taxed as a Sole Proprietorship). After Form 2553 is processed by the IRS, your current EIN will then be for an LLC being taxed as an S-Corp. Second, “California SOS is for the LLC”. I’m not sure what that means. I imagine you mean your California SOS Entity Number is for the LLC. While yes, that is correct. Once you elect S-Corp taxation with the IRS, the California Franchise Tax honors that election and will allow your LLC to file taxes as an S-Corp in California. California LLCs taxed as S-Corps need to file Form 100S (“California S Corporation Franchise or Income Tax Return”). Hope that helps a bit :)

      reply
  12. John April 12, 2018

    Hello Matt,

    I need a little help please. I am needing to verify if I just created my business last year on 12/20/2017. I received the approval for S-corp status dated in the letter 2/21/2018 to be taxed on my SMLLC. Do i still need to file an 1120s form since the date from the IRS shows accounting period as of 12/20/2017 ending 12/31/2017 ? I received the letter in Feb but there was no time to conduct business so there was no revenue for that time frame. Also will i have to pay a penalty if there was no money made at all ? If i do have to file a 1120s with zero money made, am i filing it under my LLC using Turbo tax application or am i not even filing the LLC since i filed the S-Corp 1120s ? Would i file it just as a 1040? Im really confused and need to have this all done by this Friday 4/13/2018. Your help would be greatly appreciated. There has been 2 major illnesses in the family and i have been juggling everything by myself. Sorry for the sob story but my backs up against the wall Sir.

    Thank you so much for your time

    reply
    • Matt Horwitz April 14, 2018

      Hey John, we’re unable to get into the details of how each person should complete their tax filings. You’ll need to work with an accountant in order to properly assess the situation and get the appropriate documents filed. Ask them about an extension to give you more time to get things organized. Thanks for understanding and we hope you get things sorted.

      reply
  13. Neda Essa April 15, 2018

    I’m a CPA and was looking for a good article to give to clients who would like to read more on converting their LLC’s into S-corporations. I have read several over the years and your article is by far the absolute best. Thank you for posting you have a beautiful talent and keep up the great work!

    reply
    • Matt Horwitz April 17, 2018

      Neda! Thanks so much, what a lovely comment to receive! We spent a tremendous amount of time crafting this lesson, so it’s always great to hear how helpful it is :)

      reply
      • Vicki Thompson May 4, 2018

        Is it acceptable to reprint some of your information to share with tax clients?

        reply
        • Matt Horwitz May 16, 2018

          Hi Vicki, as long as the authorship information is not retracted, then yes, you’re more than welcome to. Thank you.

          reply
  14. JMC April 23, 2018

    Hi Matt,

    Thank you for this comprehensive article. I have a question. My wife and I are partners in our new business. Our LLC was formed on March 23, 2018, but we started working for a client around January 18. I am filing form 2553 today, April 23, 2018. Once the form is accepted by the IRS, will our LLC be considered as an S corp for tax purposed starting on January 1, 2018? Or will we have to file our taxes as a partnership first (until ~ March 23) and as an LLC taxed as an S corp for the rest of the year?

    Thank you for your help.

    JMC

    reply
    • Matt Horwitz April 29, 2018

      Hi JMC, you’re very welcome. Since the LLC did not exist until 3/23/2018, then yes, from 1/1/2018 to 3/23/2018, you should be filing your Partnership return (marked final) and from 3/23/2018 through the end of the year, you’ll be filing as an S-Corp. You asked your question like this: “Will our LLC be considered as an S corp for tax purposes starting on January 1, 2018”. Yes, it will, but since the LLC didn’t exist January 1, then that 1/1 date doesn’t apply. I’m fairly certain this is the case, but feel free to run it by an accountant if they think otherwise. Hope that helps.

      reply
      • JMC May 4, 2018

        Thank you, Matt, for your prompt response and for your help.

        reply
        • Matt Horwitz May 16, 2018

          You’re welcome!

          reply
  15. Kk April 27, 2018

    Very well written and simple to follow article. Thank you for writing this article!

    reply
    • Matt Horwitz April 29, 2018

      KK, you’re very welcome! Thanks for the nice comment :)

      reply
  16. Iris May 15, 2018

    Great article very well written. I have a question….If a LLC is formed with 2 or more members/shareholders and then elects to be taxed as an S-Corp and also elects to be a QSUB ….Will the IRS be looking for Form 1120-S to be filed or will it be considered a disregarded entity and no tax filing requirement for this entity?

    reply
    • Matt Horwitz May 16, 2018

      Thank you Iris. If your LLC makes a QSUB election (your LLC taxed as an S-Corp is owned by another S-Corp), then the subsidiary S-Corp’s income, loss, deductions, and credits will get “bundled up” into the parent S-Corp’s 1120S return. Hope that helps.

      reply
  17. Chanchal Jain June 29, 2018

    Nicely documented artilce. Kudos !!

    reply
    • Matt Horwitz July 31, 2018

      Thanks Chanchal!

      reply
  18. Vincent July 4, 2018

    What is the difference between a LLC that elects to be taxed as an S corp versus a Corporation that elects to be taxed as an S corp? I am still confused on this. Could you please advise

    reply
    • Matt Horwitz August 12, 2018

      Hi Vincent, at the federal taxation level, the tax entities are treated the same by the IRS, but at the state-level, it’s two completely different legal entities with different structures, rules, and formalities. We have more info here: LLC vs Corporation. Hope that helps.

      reply
  19. Neal Biernbaum August 2, 2018

    Is there any issue with assets?
    Do the current depreciation schedules just carry forward or does the LLC “Sell” the assets to the Sub-s

    reply
    • Matt Horwitz August 15, 2018

      Hi Neal, we don’t go this far into the tax specifics so please double-check on this, however, as per Section 301.7701-3(g)(1) (tax classification of business entities), when a disregarded entity LLC makes an election to be treated as an S-Corp, the IRS treats that action as though the LLC owner contributes all the LLC’s assets and liability to the S-Corp in exchange for stock of the S-Corp. Hope that helps.

      reply
  20. Jessica August 24, 2018

    Thank you so much for simplifying this subject. I completed the S-Corp process and my LLC is now being treated as a S-Corp effective 1/1/2018. It was definitely a process that I don’t want to do over. When I submitted Form 2553, the IRS stated they didn’t recognize the EIN attached to our LLC as valid, and assigned me a new EIN. Then they must’ve went ahead and processed the S-Corp with the new EIN they assigned to me. Before I was able to receive the approval letter stating that they went ahead and creating the S-Corp with the new EIN, I faxed over supporting documents to the IRS showing that my “original” EIN attached to my LLC is valid and I was current on all my annual filings with the Secretary of State. So I was very confused when I received 2 conflicting letters from the IRS. The first letter stated that they approved my request to be treated as a S-Corp with the new EIN they assigned me. The second letter I received stated that my “original” EIN assigned to my LLC is in fact valid and that I should use this EIN on all federal tax returns or related correspondence. I hope I haven’t lost you yet, because believe me I was lost and I still am. So to simplify, I now have 2 different EIN’s. The original EIN that is tied to my LLC and the new EIN that the IRS assigned to me that is attached to my S-Corp. Moving forward, do I just use my S-Corp EIN for all IRS documents and completely disregard my original EIN? I have several 1099 contractors that I use, when I send them their 1099’s at the end of the year do I use the original EIN that I’ve always used for them or the new EIN? Do I continue to file an annual report with the Secretary of State for LLC with the original EIN or the new EIN? If it is the new EIN, do I have to register that new EIN number with the SOS and have them replace my original EIN with the new EIN? Is it okay to have 2 EIN’s? Since we’ve been approved to be treated as an S-Corp for 2018 I have not done anything with it due to the fact that I am unsure of what EIN to use and nobody seems to know how to help. I REALLY hope you can help me! Thank you so much in advance.

    reply
    • Matt Horwitz August 31, 2018

      Hi Jessica, subtle clarification: the EIN is attached to the LLC that is taxed as an S-Corp. The EIN isn’t attached to the S-Corp. Sounds like you have two of them (2 EINs attached to 1 LLC, which is taxed as an S-Corp). From what you’ve shared, sounds like the “original” EIN is good to go, since the IRS made a mistake, then later corrected it (but in the middle, issued a new EIN). I would call the IRS in the morning (800-829-4933) and confirm the situation. If they confirm the “original” EIN is good to go, and the S-Corp election is in effect, tell them you plan to cancel the “2nd” EIN and ask if that’s okay. If so, then you can cancel that EIN and you’ll be left with your original. Hope that helps! This is quite interesting and we haven’t seen this before. Feel free to post an update in a couple months once things get squared away. Thanks.

      reply
  21. Jeff August 28, 2018

    S Corp ownership – can an lic taxed as an s Corp be an owner of another lic taxed as an s Corp?

    reply
    • Matt Horwitz October 10, 2018

      Hi Jeff, yes, an LLC taxed as an S-Corp can own another LLC taxed as an S-Corp. Said another way, an S-Corp can own an S-Corp. This is known as a Qualified Subchapter S Subsidiary, aka “Child S-Corp”, aka “QSUB” or “QSSS”. The Child S-Corp is treated as a division of the parent. In order to make this election, one must file IRS Form 8869: https://www.irs.gov/forms-pubs/form-8869-qualified-subchapter-s-subsidiary-election. Hope that helps.

      reply
  22. Joseph Zimmer August 29, 2018

    Does the LLC with the changed default tax classification use an Operating Agreement as with default LLCs or Corporate Bylaws like a corporation?

    Do S-Corporation Shares need to be issued? How does one go about issuing shares?

    reply
    • Matt Horwitz October 12, 2018

      Hi Joseph, while the LLC is taxed like an S-Corp, it is still an LLC, so no shares are issued. The LLC can use a regular Operating Agreement. No Bylaws. However, if desired, additional sections can be added to the Operating Agreement that are specific to the S-Corp tax election (if the Members find it necessary to go into detail). Not required though. And usually, most Operating Agreement templates have a section which states how the LLC is taxed. Hope that helps.

      reply
  23. CJ September 1, 2018

    If I elect to have my LLC taxed as an S corp, do I then have to do my bookkeeping and reporting as if I were a corporation? Do I have to have annual meetings and such, or do I keep the relatively simple requirements of an LLC?

    reply
    • Matt Horwitz October 12, 2018

      Hi CJ, no need to hold annual meetings (unless you want to). Even though the LLC is making an election to be taxed as an S-Corporation, it’s still an LLC, so you get the same simple requirements. Having said that, you’ll want to look over bookkeeping and reporting to make sure your taxes are in check. We recommend working with an accountant. Hope that helps.

      reply
  24. Marie September 4, 2018

    Thanks so much for this VERY CLEAR explanation regarding LLC (including single member LLC) opting to be taxed as S-Corp. I have been trying to figure out which route to go to and your article is the most helpful one I have encountered so far!

    reply
    • Matt Horwitz October 12, 2018

      Hi Marie, you’re very welcome! Glad to hear that we could help. Thank you for the kind words :)

      reply
  25. Eneida September 11, 2018

    I just formed my LLC in Sept 2018, I was thinking on requesting to be treated as S-Corp for tax purposes with the 2553 form. This is a one member LLC but as I am setting up/starting business, I do not know what my profit or salary would be yet, if I do not pay myself salary yet would that be an issue for my LLC? As per S-Corp requirements member salary has to be in line with profession but I do not think my profit would be even close to that number yet, is the S-corp a good move? or should I wait until revenue grows in order to set a salary base for myself? what are your recommendations?

    reply
    • Matt Horwitz September 12, 2018

      Hi Eneida, it’s best to wait until you’ve established sufficient net income before electing to have your LLC taxed as an S-Corp. Do you have an accountant you can speak with? If so, see how the first 6 months go and take a look at your revenue and expenses. Then speak with your accountant about the timing of when to make the S-Corp election. Hope that helps!

      reply
  26. Manuel Aguilar September 18, 2018

    This is such a great piece of information, I set up a LLC for a client and sent a 2553 out for a S election and received the s election approval letter in January of 2018, fast forward, Now im missing the Ca corp No. to file the 100s on the California side. Did i miss a step?

    reply
    • Matt Horwitz October 17, 2018

      Hey Manual, thank you! We’re not sure on this as we don’t go that deep into taxes. Since you can list the LLC’s Secretary of State File Number and its EIN, I’m wondering if the California Corporation Number on the S-Corp’s 100S is N/A and maybe it can be left. Have no idea though. Please call the Franchise Tax Board on this. I recommend calling shortly after they open. If you’d like, feel free to share your findings. Thanks!

      reply
  27. Andres October 5, 2018

    Matt,

    Thanks again for another highly informative post. I’m curious to know your thoughts on the following idea for the LLC I’m looking to form. My partner and I will be forming an LLC strictly for investing in online businesses. The “work” he or I would be doing would be de-minimus (4-10 hours for the whole year) because 99.9% of the work will be managed by a 3rd party we will pay. Logically we would find a way to set this up as passive LLC owners but that would require us to find a 3rd party LLC manager making us 100% passive but I’m not sure we want to go down that route due to control issues. However in order to get as close to fully passive (which accurately reflects our status) we were thinking the following:

    1) Set up the LLC as manager controlled where one of us is the manager and the other is a passive investor.
    2) Structure the LLC tax treatment as S-corp
    3) Pay the manager a “reasonable salary” for his work which at an hourly rate of $100 or even $200 / hour would only amount to $1000 – $2000 / year which seems reasonable given the amount of work actually done. I realize this might raise red flags but it would be an accurate representation of work done. Not sure if that might still be a problem.
    4) The remaining income for the manager would be earned as passive income and the other passive member would receive all his income as passive income as well.
    5) I heard somewhere there might even be a way to avoid the payroll service provider costs by setting a fixed payment amount in lieu of a salary up front. Not sure if you know anything about that but would seem to apply nicely in this case.

    Any thoughts or color on our line of thinking would be greatly appreciated.

    Thanks,
    Andres

    reply
    • Matt Horwitz October 25, 2018

      Hi again Andres! One thing to consider is that you could still hire someone as an independent contractor to “manage” your operations, but you don’t have to make them an “LLC Manager”. If needed (and it’ll still be passive without giving up control – meaning, you keep the LLC member-managed by you and your partner), you can tell the 3rd party that they are the company’s “manager”, but it’s just a formality, not a legality. You’ll just pay them (flat rate, hourly, etc. – whatever you want) and have a contract between them and your LLC spelling out the details of the relationship. Regardless of how the “manager” is put into place, if your LLC’s net income justifies the LLC being taxed as an S-Corp, then it’s a good route to consider. Regarding #5, I’m not sure about that. The LLC being taxed as an S-Corp will need to pay you and your partner a reasonable salary and that’ll have to get processed through payroll so that payroll taxes are taken care of. What you heard re: #5 may only apply to an LLC being taxed as a Partnership, but not an LLC being taxed as an S-Corp (correct me if I’m wrong though). Hope that helps. Feel free to keep me posted on how things evolve. I know you had questions about the state where you were settings things up. I admire your details. I’m the same way. Thinking through everything ahead of time, developing a strong strategy, and then executing. Cheers!

      reply
  28. Terry October 6, 2018

    You clarified a lot for me, thank you. I’ve been wanting to start an LLC for my online business and have read the benefits of being taxed as an S-Corp but now I think I will stick to with LLC taxation. Seems simpler and the cost savings of an S-Corp don’t really seem to justify all the extra hassle for a single member LLC, especially since my net income is not near the $75,000-$100,000 mark yet.

    reply
    • Matt Horwitz October 25, 2018

      Hi Terry, sounds like a solid plan. I agree. Stick with default taxation and focus on growing and sustaining your business. Get that net income towards 6 figures and then revisit having your LLC taxed as an S-Corporation. You’ll need to register with your state’s Department of Revenue (or equivalent), then setup payroll, and we recommend working with an accountant and bookkeeper. You’ll need to keep and reconcile a set of books. A bookkeeper can help with that since a balance sheet is required to be filed with your 1120S. Said another way, it’s a good amount of work to set up the S-Corp election, setup payroll, keep reconciled books, and manage payroll. Make sure it’s worth the effort ;) Hope that helps!

      reply

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