September 20, 2013

When you first went into business, you may have operated as a sole proprietor or as a partnership. However, as your operation has grown, a more formal business structure has become necessary.

Depending on your personal circumstances and the nature of your business, you may reorganize as a limited liability company, or LLC, an S-corporation, or a C-corporation. Each business structure has advantages and disadvantages concerning taxes and liability for adverse legal and financial circumstances.


LLCs are simple to organize and run. The owners (known as members) of an LLC are allowed to distribute revenues generated by the company among themselves — there are no shareholders demanding dividends. LLCs also provide a shield against legal liability for adverse actions taken against the company.

In plain English: if your LLC is sued, you won’t lose your shirt (or your house, car or any personal possessions that are not tied to the LLC as collateral) if the person filing the suit wins in court. 

However, the Internal Revenue Service does not recognize LLCs as separate entities for federal income tax purposes. Each member of an LLC pays individual federal income taxes on any revenue received from the LLC. In addition, revenue generated by an LLC is also subject to self-employment taxes.


In many ways, S-corporations represent the best of both worlds. If an S-corporation is sued, its officers are generally shielded from personal liability. This is because S-corporations, like C-corporations, are technically owned by shareholders who entrust officers (such as a CEO) to run the company in the best interests of those shareholders. As a result, the IRS considers S-corporations to be separate tax entities. Officers of S-corporations are also exempt from self-employment taxes. Also, S-corporations are exempt from the double taxation that the IRS imposes on C-corporations.

However, the IRS limits S-corporations to 100 or fewer shareholders. Non-resident aliens cannot be shareholders in an S-corporation. Certain types of companies, such as insurance agencies, are not allowed to organize as S-corporations. In addition, profits from S-corporations that are not distributed as income to officers must be distributed as dividends to shareholders.


When people refer to “corporations,” in most cases, they are referring to C-corporations. Like S-corporations and LLCs, C-corporations shield officers from financial and legal liability for the actions of the corporation.The IRS also considers C-corporations to be separate entities for tax purposes, which means that the officers of C-corporations are not subject to self-employment taxes. 

However, much of the revenue that C-corporations is subject to double taxation – taxed once through corporate income taxes and again when profits of the corporation are distributed as dividends to shareholders. As separate tax entities, C-corporations must file separate income tax returns to the IRS. In addition, shareholders must declare dividends as personal income on their individual income tax returns.

Deciding Factors

In considering whether to organize as an LLC, S-corp or C-corp, consider whether flexibility, exemption from self-employment taxes or avoiding double taxation is more important.

If you want flexibility in operating your company, an LLC is a good option. If avoiding both self-employment taxes and double taxation is your main goal, and if your company is eligible, consider forming an S-corporation. For larger companies, organizing as a C-corporation is almost always a necessity. However, you should consult with an attorney or CPA who specializes in corporate tax law before making a final decision.