"Should I be an LLC or an S corp?" is one of the questions I hear most from small business owners. The confusing part is that it isn't really an either-or choice. An LLC is a type of business you form under state law. An S corp is a way of being taxed by the IRS. Many Texas businesses are both: an LLC that has elected to be taxed as an S corp. Whether that election is worth the extra work depends on your profit.
The difference between an LLC and an S corp
An LLC (limited liability company) is a legal entity. In Texas you create one by filing a Certificate of Formation (Form 205) with the Secretary of State, with a $300 filing fee. The LLC keeps your personal assets separate from the debts and lawsuits of the business, as long as you run it as a separate business.
An S corp is a tax status that an eligible LLC or corporation chooses by filing Form 2553 with the IRS. The legal protection stays the same; only the way the IRS taxes the profit changes.
| LLC (default tax treatment) | LLC taxed as an S corp | |
|---|---|---|
| How it's created | Certificate of Formation with the Texas Secretary of State | Same LLC, plus Form 2553 filed with the IRS |
| Federal tax return | Schedule C on your personal return (one owner) or Form 1065 (two or more owners) | Form 1120-S, due March 15 |
| How the owner is paid | Owner draws | A reasonable salary through payroll, plus distributions |
| Self-employment tax | On most of the profit (92.35% of it) | Payroll taxes on the salary only |
| Payroll required | No | Yes |
| Texas franchise tax | Applies | Applies |
How a regular LLC is taxed
By default the IRS ignores the LLC for income tax. A single-member LLC is taxed like a sole proprietor, and an LLC with two or more members is taxed as a partnership. Either way, the profit flows through to the owners' personal returns.
The owner pays income tax on that profit, plus self-employment tax of 15.3% (12.4% for Social Security and 2.9% for Medicare). Self-employment tax is figured on 92.35% of the profit, whether you take the money out of the business or leave it in. The Social Security part stops once your earnings reach the yearly limit ($184,500 for 2026); the Medicare part has no limit.
How an S corp is taxed
An S corp's profit also flows through to the owners' personal returns, so there's no separate corporate income tax. The difference is how the owner who works in the business gets paid:
- The owner is an employee and must take a reasonable salary through payroll. Social Security and Medicare taxes are withheld and paid on that salary, just as for any employee.
- Profit left over after the salary can be paid out as distributions. That profit is still subject to income tax on your personal return, but not to Social Security and Medicare taxes, which is where the savings come from.
When an S corp saves money: an example
Say your Texas LLC makes $100,000 in profit for the year.
- As a regular LLC, self-employment tax applies to 92.35% of the $100,000, which is $92,350. At 15.3%, that's about $14,100.
- As an S corp paying you a $60,000 salary, payroll taxes of 15.3% apply to the $60,000, which is about $9,200. The other $40,000 comes out as distributions without them.
In this simplified example, the difference is about $4,950 a year, before the extra costs of running an S corp. Your real numbers depend on your profit, a salary you can defend, and your other income.
The IRS expects the salary to be reasonable, meaning close to what you'd pay someone else to do your job. Paying yourself a token salary to push everything into distributions is one of the first things the IRS looks for.
What an S corp costs to run
The S corp election adds work that a regular LLC doesn't have:
- Running payroll for yourself, with withholding and quarterly payroll tax returns
- W-2s at year-end
- A separate business tax return (Form 1120-S) every year
- Cleaner books, since salary, distributions and expenses all have to be recorded correctly
If the tax savings are smaller than the extra payroll and tax preparation costs, the election isn't worth it. That's why it usually doesn't make sense for a business with modest or unpredictable profit.
Who can elect S corp status
Not every business qualifies. An S corp can have:
- No more than 100 shareholders
- Only eligible shareholders, generally individuals who are US citizens or residents
- Only one class of stock
Form 2553 must be filed no more than 2 months and 15 days after the start of the tax year you want the election to begin. Late elections are sometimes accepted, but it's far easier to file on time.
Texas franchise tax applies either way
Texas has no state income tax, so the S corp election makes no difference at the state level. Texas franchise tax applies to LLCs and corporations whether or not they've elected S corp status. Most small businesses fall under the $2.65 million no-tax-due threshold, but they still have to file a report each year. My Texas franchise tax guide covers who files what and when.
LLC vs S corp: how to decide
- Start as a regular LLC while the business is new and profit is uncertain.
- Once profit is steady, compare the self-employment tax you'd save with the cost of payroll and an extra return.
- Decide on a reasonable salary for your role before you elect, not after.
- If the numbers work, file Form 2553 on time and set up payroll before the first salary payment.
- Keep books that separate salary, distributions and expenses from day one.
Whichever you choose, the way you take money out of the business matters. I explain the options in how to pay yourself from an LLC.
Not sure which is right for you?
I've worked in accounting for 38 years and help small business owners make this decision with real numbers from their own books, working online from Weatherford, Texas. See my tax preparation and planning services or book a short intro call.
Sources
- Texas Secretary of State: Form 205 Instructions, Certificate of Formation for an LLC
- IRS: About Form 2553, Election by a Small Business Corporation
- Social Security Administration: Contribution and Benefit Base
This article is general information, not tax advice for your specific situation. Tax rules can change, and the right choice depends on your own numbers.