You’ve been hearing other business owners talk about registering as an S corporation.
But what exactly is that and how do you know if it’s right for you and your business?

Let’s break it down.

The Difference Between an LLC and an S Corp

In general, new business owners first register as an LLC or limited liability company. You’ve probably already checked that off your list (or are currently operating as a sole proprietor). In addition to some differences in how you’ll pay yourself (cha-ching) as the business owner, there are a couple of other ways an LLC differs from an S Corp. Whether your business is currently operating under an LLC or a sole proprietor status, you’ll file one personal tax return and report your business activity under a Schedule C during tax season.

As a sole proprietor, you pay income tax at your standard rate and self-employment tax (15.3%) on ALL your profits. Registering as an S Corp means that you are still an LLC, but with the ‘S Election’ added on. Nothing too fancy, just think of it as a fancy label. After you’ve successfully become an S Corp, you and your business will become separate legal entities and you’ll file two tax returns: one business and personal.

But not so fast! Registering as an S Corp also brings with it some additional requirements from the IRS. As an owner for an S Corp you will need to pay yourself a salary as an employee through a payroll process, whereas with an LLC registration, you’re able to pay yourself through Owner’s Draw from your bank account (like PayPal or an ACH transfer). Your salary is then listed as an expense on the Profit and Loss statement. This means that you will pay personal tax on your salary. This should be withheld on your paycheck when you run payroll.

As an S Corp, you have the option to take monetary distributions from the business in addition to your salary. Just make sure you are staying compliant with the IRS standards on how much you pay yourself through payroll and how much you take through withdrawals. Filing your taxes also gets trickier as an S Corp, so I’d also suggest enlisting the help of professional financial support with this. And because you are required to pay yourself as the business owner with an S-Corp, it’s extra important you are well-established as an LLC (including having consistent cash flow so you can pay yourself) before making this transition.

The Benefits of Registering as an S Corp

Because self-employment tax is 15.3%, and is filed in addition to income tax, you should think of self-employment tax as a replacement of your payroll tax.

When you are an S-Corp, the IRS requires you to pay yourself a salary because you will no longer be paying self-employment tax.

The benefit to you is that you can pay yourself a salary that is less than your profit, saving you the 15.3% self-employment tax on the profit you are not paying yourself as a salary.

How to Know When to Transition to an S Corp

Because there are some additional costs to transitioning, including quarterly/yearly tax preparation and payroll services associated with registering as an S-Corp, you’ll need to determine when it makes sense financially for your business.

Hint: when your business is profiting approximately $50,000, you should start having conversations with your bookkeeper and CPA on whether S Corp election is a good fit for your business.

When you reach this benchmark, have a chat with your financial team to get clarity on if it makes sense to switch to an S Corp registration. They will also be able to help you get everything transitioned.

Remember! You are required to pay yourself a salary as an S-Corp and if you, as the owner, aren’t doing so, you’ll be sending the IRS a red flag and run the risk of being audited.

If you can check the box of a profit of over $50,000 and you’re ready to start receiving a regular salary and paycheck as a business owner, it’s a great time for us to work together to get you set up as an S Corp and get started with payroll.