Although you may anticipate certain business-related issues once your California start-up is running, you may not realize there are some challenging issues before you even open your physical or virtual doors. Your business structure can affect your growth options as well as the way you conduct business.
According to Fundera, both the LLC and S-Corp structures offer limited liability and flexibility for entrepreneurs. However, they also have significant differences. The nature of your business, goals and tax implications are among the many factors that can help you determine which entity is correct for your company.
LLC pros and cons
Forming an LLC cost less and requires fewer forms than a corporation, which reduces start-up costs. You also have flexibility when allocating income, loss and distributions. As an LLC member-owner, you can also receive an increase to your tax basis for your share of qualifying debt, in addition to the equity.
One of the primary downsides of an LLC is that it has a limited lifespan, which you must decide upon when filing with the state. If your plans include issuing shares to owners and employees or take the company public, you might have to convert it to a corporation first.
S Corp pros and cons
In California, an S Corp tax of 1.5% uses net-taxable income, whereas the LLC uses annual gross receipts. This difference could save you thousands of dollars a year. The corporate structure may also provide tax savings for self-employment tax purposes. As a result, you may pay only payroll taxes on the paycheck you receive. Another benefit is that the entity exists independently of the shareholders, improving their protection against liability.
The documentation required for an S Corp can increase costs, making it one of the primary downsides to the structure. Recordkeeping includes updates to bylaws, records maintenance, stock transfers, shareholder and director meetings with recorded minutes. In addition to the state taxes at 1.5% of its net income, you must also pay income tax on your share of the entity’s income.
Understanding the business structure that is right for your business and goals may help you grow and expand as you see fit.