Corporation Advantages *
- Is the only limited liability organization that is available to most licensed professionals in California (including dentists and doctors).
- C-corporations, and occasionally S-corporations, may elect a non-calendar fiscal year, providing opportunities for shareholders to accelerate or delay recognition of income.
- May obtain significant tax benefits not available to LLCs.
- No income tax owed by shareholders of insolvent corporation for “cancellation of debt.” Solvent LLC members of insolvent LLCs are generally taxed on the amount of bad debt cancelled.
- Not subject to California gross receipts tax. LLCs are subject to an additional “gross receipts” tax, ranging from $900 on annual gross income in excess of $250,000 to $11,790 on gross income in excess of $5,000,000.
LLC Advantages *
- Less annual paperwork (no annual minutes required), and no separate LLC tax return is required for a one person LLC).
- Far more freedom to creatively arrange different capital contributions, profit distributions, loss allocations, preferential payments and voting arrangements between owners.
- Far more freedom to creatively arrange different benefits and tax deductions for corporate LLC members.
- Fewer limitations and burdens on trust ownership of LLC (dangers exist for certain types of trust ownership of S corporations).
- Creditors of members cannot seize membership interests (and thus take some management control to force extra distributions), but can only attach earnings of the member/debtor as previously authorized by the LLC.
- Loans personally guaranteed by members are added to basis, so if significant losses are anticipated those increased losses may be claimed as an additional tax deduction.
* This tax comparison of corporations and LLCs is intended to address a typical startup of a small business organization, excluding state-specific issues. This comparison is not exhaustive, nor does it apply necessarily in each and every circumstance. The contents of this website are not intended to be, nor shall they be considered, legal advice or legal opinions. Please see your CPA and/or attorney for more thorough coverage of the subject.
A Special Word on LLCs Taxed as S Corporations:
Some professionals advise forming an LLC while electing to be taxed as an S corporation. This election takes away some of the benefits of being an LLC: (1) it requires the LLC to follow S corporation rules (no “creative arrangements” or corporate members allowed, to name a few), (2) the level of initial filings, tax returns and other tax complexity is somewhat higher, and (3) it increases the risk of confusion and mistakes by members and professionals, due to state and federal laws that do not provide clear answers on the treatment of this hybrid entity.
However, delaying the S election until the year after obtaining a business acquisition/startup loan can provide the best of both worlds – allowing your personally guaranteed loan to be included in basis (so you can deduct those large losses the first year), but taking advantage of the lower payroll tax for distributions in subsequent years when you become profitable.
Caveat:
Pursuant to applicable federal regulations, we are required to inform you that any advice contained in this communication is not intended to be used nor can it be used for purposes of (1) avoiding tax penalties or (2) promoting, marketing or recommending to another party any transaction or matter addressed above.