LLC Electing To Be Taxed As an S Corp (2023 Guide)
An S-Corporation is a special type of business structure that qualifies for pass-through taxation. A pass-through entity means all profits and losses are claimed on the shareholder's individual income taxes.
There are strict requirements for an LLC to be used as a tax vehicle to make it eligible for S Corporation benefits, but if you structure your company properly, you can increase your chances of success.
How is an LLC Usually Taxed?
An LLC is taxed as a pass-through entity. This means that the business does not pay any tax on its income, and instead, all profits (or losses) are "passed through" to the individual owners.
The IRS does not consider a limited liability company (LLC) to be a taxable entity. So an LLC is subjected to tax liability based on the number of members (owners) it has:
- A single-member LLC is taxed as a sole proprietorship through the member's personal self-employment taxes, just like any other business for federal income tax purposes.
- A multiple-member LLC files taxes as a partnership.
Why Elect S Corporation Tax Status?
When you elect S Corporation status, you are not considered self-employed. This means that your income is no longer subject to Self-Employment Taxes, therefore avoiding double taxation.
An LLC can be taxed as an S Corporation by filing Form 2553 with the IRS within two months and 15 days after the beginning of the tax year or before it files its first tax return.
Benefits Of The LLC Entity And S Corporation Tax Treatment
Here are the major benefits of both an LLC and S Corporation status:
Limited Liability – As a business owner, you do not want to be personally liable for any lawsuits brought against your company.
Having a limited liability company structure provides personal protection from business lawsuits and debts. This is one big reason why many new businesses choose to form an LLC.
A pass-through tax structure means that all profits and losses are reported on the individual incomes of the LLC members.
For federal tax purposes, this saves business owners money because they do not need to pay separate taxes for their company avoiding double taxation.
The IRS also allows an LLC to choose its tax year without providing a reason, which can be advantageous for new businesses.
S Corporation as a business entity has a status that allows your company to be treated like a partnership for tax purposes but still enjoy limited liability protection. This means you will pay only one level of taxation - at the shareholder level.
Your income is not subject to Self-Employment Tax, which saves you 15.3% in Social Security and Medicare taxes.
If you are a shareholder in an S Corporation, your company will still withhold Social Security and Medicare taxes (12.4%).
Then, when you file your personal income tax return, the S Corp pays whatever amount of tax is due on its earnings (less any taxes paid by employees), and recovers this withholding from you, the shareholder.
Read More: Reduce Self Employment Tax
LLC Electing to Be Taxed as an S Corporation
In order for our business entity to elect S Corporation status, the LLC must meet certain requirements.
The rules for becoming a corporation are found in Subchapter S of Chapter 1 of Subtitle A of the Internal Revenue Code.
There are two important aspects you must consider when filing Form 2553:
- The number of shareholders - An LLC can have no more than 100 shareholders. The reason for this is that the S Corp tax status allows only one class of stock, so there can be no preferred shares or other classes.
- The type of entity - An LLC must have limited liability and be able to issue stock certificates to its members. Your company cannot hold non-cash assets, such as real estate.
Additional Qualifying Statuses for an LLC
Since the IRS treats an LLC as a disregarded entity, it is automatically treated as a sole proprietorship if there is only one member or as a partnership if there are multiple members.
However, this does not mean that your company cannot have different tax statuses based on the number of members or on any other factor.
For example, an LLC can be taxed as a corporation by filing Form 8832 with the IRS and checking the "Qualified Joint Venture" box. This makes your company eligible for both S Corp and C Corp status within one business entity.
The S Corp election is made on Form 2553 (Election by a Small Business Corporation) and is attached to Form 1120 filed for your company's tax year.
Once you e-file your S Corporation election, it becomes effective on the date when it was filed with the IRS. It is okay to file it before or after this date, but there can be no retroactive changes to your S Corp status.
In addition, you must file a separate form if you have transferred any of the assets that were previously owned by an LLC member to another person or persons as part of a sale or similar transaction.
In this case, the transferor and transferee must complete Form 8582 Transfer Information for Property Acquired From a Decedent.
Since an LLC is a disregarded entity, it does not pay taxes on its own. Instead, all profits and losses must be reported by the individual members of the LLC on their personal tax returns.
This simplifies the accounting process for the business owner because there are no separate forms to complete or deductions to track.
When To Change Your Tax Election?
You can change your LLC tax election at any time, but it is best to do this immediately upon formation.
For a business entity taxed as a corporation (C Corp), this means filing Form 2553 with the IRS within 75 days of filing your Articles of Incorporation. The form must be attached to the C Corp's first federal income tax return.
For an LLC taxed as a partnership, this means filing Form 8832 with the IRS within 75 days of forming your LLC. The form must be attached to the return for each tax year that you wish to have your company treated as a partnership.
If you do not meet the 75-day rule, then your election to change tax status will be invalid for that year.
Similar Article: Converting an LLC to an S Corporation (Guide)
How do I change my LLC to S-Corporation?
To change your LLC tax status to S-Corp, you will first need to file a 2553 form with the IRS, which is attached to a 1120S return. This is NOT a business tax but rather a federal tax form that must be filed annually by all S Corporations.
All corporations (LLCs taxed as corporations) are required to file a 1120S tax return. In addition, LLCs taxed as S-Corp are required to file a 2553 form when filing LLC taxes in order to elect the LLC tax status.
Can I Change My LLC to Be Taxed as an S-Corporation?
Yes, LLC taxed as an S-Corp can change LLC tax status at any time by filing a 2553 form.
However, it is best to file immediately upon formation of the LLC taxed as an S-Corp. This will give you the LLC tax advantage from day one and avoid non-qualifying returns.
Do I Need a New Ein if I Change My LLC to an S-Corporation?
Yes, LLC with LLC tax status is required to have an EIN when LLC taxes are due. However, you do not need a new EIN for LLC taxed as an S-Corp; only the 2553 form must be filed in order to elect LLC tax status.
How to Change Tax Status From LLC to S-Corp...
To conclude, changing your tax status from LLC to S-Corp can be a very beneficial LLC tax election for LLC owners.
Not only is LLC taxed as an S-Corp LLC tax status advantageous, but it is also extremely easy to change an LLC tax status from LLC to an S-Corp.
In addition, the 2553 form LLC taxes LLC owners LLC tax returns LLC taxes LLC tax status LLC taxed as an S-Corp does not need to be filed with the IRS until 75 days after LLC formation.
If you need help with the election, contact a tax professional for assistance.