Founder of GTA Accounting Group, Sohail helps businesses grow with expert tax strategies and financial planning.
An LLC is a legal entity and an S-corp is a tax election, so the usual comparison is malformed. This guide covers liability, tax, payroll and ownership for all three, shows where the S-corp election starts to pay, and sets out what New York, New York City, New Jersey and California do to that number.
Most people researching this decision are comparing three things that do not belong in the same list. A sole proprietorship and an LLC are legal structures, created under state law, that determine who can come after your personal assets. An S-corp is neither. It is a federal tax election that an LLC or a corporation applies for after it already exists. You do not choose between an LLC and an S-corp. You choose a legal entity, and then you choose how that entity is taxed.
Getting that straight first changes the whole question. This guide covers what each structure does to your liability, your tax, your payroll obligations and your paperwork, then shows at what profit level the S-corp election starts to pay — and what New York, New Jersey and California do to that number, which is the part most national guides leave out.
A limited liability company is formed by filing with a state. It exists the moment the state accepts the filing, and its purpose is to put a legal wall between the business and the owner's personal assets.
An S corporation is not formed anywhere. "S corporation" describes a tax status granted by the IRS under section 1362(a), requested on Form 2553. The IRS describes the form plainly: "A corporation or other entity eligible to be treated as a corporation files this form to make an election under section 1362(a) to be an S corporation."
Note the phrase or other entity eligible to be treated as a corporation. That is the door an LLC walks through.
This is the configuration most profitable small businesses end up in, and it confuses people because it sounds like two things at once. It is.
The LLC remains the legal entity. Its liability protection, its operating agreement, its state filings and its name all stay exactly as they were. What changes is the form the IRS expects at the end of the year and the way money comes out of the business to you. Nothing about the legal structure moves.
So an LLC can be taxed three different ways: as a sole proprietorship (the default for a single owner), as a partnership (the default for two or more owners), or as an S corporation (by election). The entity on the state's records is identical in all three cases.
| Legal structure | Default tax treatment | Can elect S-corp status? |
|---|---|---|
| Sole proprietorship | Sole proprietorship — Schedule C | No. There is no entity to make the election |
| Single-member LLC | Sole proprietorship — Schedule C ("disregarded entity") | Yes |
| Multi-member LLC | Partnership — Form 1065 | Yes |
| Corporation | C corporation — Form 1120 | Yes |
A sole proprietor who wants S-corp treatment cannot simply file Form 2553. There has to be an eligible entity first, which in practice means forming an LLC or a corporation, and only then making the election.
| Sole proprietorship | LLC (default tax) | LLC or corporation with S-corp election | |
|---|---|---|---|
| Personal liability | Unlimited | Limited to business assets | Limited to business assets |
| How it is created | Automatically, by doing business | State filing | State filing, plus Form 2553 |
| Income tax | Passes to your personal return | Passes to your personal return | Passes to your personal return |
| Self-employment / payroll tax | 15.3% on 92.35% of net profit | Same as sole proprietorship | Payroll tax on salary only; distributions exempt |
| Owner payroll | Not possible | Not possible | Required |
| Federal return | Schedule C | Schedule C or Form 1065 | Form 1120-S plus W-2 |
| Ownership limits | One owner | None | Max 100 shareholders, one class of stock, no partnership / corporation / non-resident alien shareholders |
| Ongoing admin | Minimal | Low | Meaningful — payroll, separate return |
| Typically worth it at | Any profit level | Any profit level | Roughly $60,000+ net profit |
If you started working for yourself and never filed anything with a state, you are a sole proprietor. There is no election to make and no form to file. It happens automatically.
Business profit goes on Schedule C and flows to your personal return, where it is taxed at your ordinary rates. On top of income tax, you owe self-employment tax: 15.3% — 12.4% for Social Security and 2.9% for Medicare — calculated on 92.35% of your net profit. The Social Security portion applies only up to the annual wage base, which is $184,500 for 2026. The Medicare portion has no ceiling. You can deduct one half of the self-employment tax above the line.
This is the single largest tax most small business owners pay, and it is the entire reason the S-corp election exists as a planning tool.
There is no legal distinction between you and the business. A commercial judgment, a business debt or a claim from a dissatisfied client reaches your personal bank account, your car and, depending on state homestead rules, your house. Business insurance narrows this, but it does not change the legal position.
For a freelance copywriter this may be an acceptable risk. For a contractor working on other people's property, or anyone with employees, inventory or premises open to the public, it usually is not.
A sole proprietorship is the correct structure more often than the internet suggests. If your profit is modest, your work carries little liability exposure, you have no employees and no outside investment, the administrative simplicity is worth real money. You file one extra schedule and pay nothing for the privilege. Forming an entity to solve a problem you do not have is a cost, not a strategy.
This is the most misunderstood point in the entire comparison. Forming an LLC, by itself, does not reduce your tax by one dollar.
A single-member LLC is what the IRS calls a disregarded entity. It is ignored for federal income tax purposes. You still file Schedule C, you still pay self-employment tax on the whole profit, and the numbers on your return are identical to the day before you formed it. The LLC is a liability instrument, not a tax instrument.
The LLC separates business liabilities from personal assets. It does not protect you from your own professional negligence, it does not survive if you sign a personal guarantee — which most banks and many landlords will require — and it does not hold up if you fail to keep the separation real.
That last point is where owners actually lose the protection. Paying personal expenses from the business account, skipping the operating agreement, and leaving the company undercapitalised all give a claimant grounds to argue the entity is a formality. The shield is maintained by conduct, not by the certificate.
One owner means Schedule C by default. Two or more owners means a partnership return on Form 1065 and a Schedule K-1 to each member. This catches people out when they add a spouse or a partner to an existing LLC: the filing obligation changes, and a return that did not previously exist becomes due.
Formation costs vary sharply by state, and two in this region are worth knowing before you file.
New York's publication requirement is the one that surprises people most. Section 206 of the New York Limited Liability Company Law requires that within 120 days of the articles of organization taking effect, an LLC must publish a notice "in two newspapers for six consecutive weeks. The newspapers must be designated by the county clerk of the county in which the office of the LLC is located." A Certificate of Publication, with the newspapers' affidavits attached, then goes to the Department of State with a $50 filing fee.
The newspapers set their own rates, and the county clerk decides which newspapers you may use — so the cost depends on where your LLC's office is, and it is worth checking with the relevant county clerk before you file rather than after. The consequence of ignoring the requirement is not a fine: the Department of State states that failure to publish and file within 120 days "will result in the suspension of the LLC's authority to carry on, conduct or transact business."
California's $800 minimum applies regardless of profit. It is covered in the state section below, because it interacts with the S-corp election in a way that matters.
A sole proprietor pays self-employment tax on all net profit. An S corporation splits the owner's money into two streams: a salary, which carries payroll tax, and distributions, which do not.
The saving is 15.3% of whatever legitimately falls on the distribution side of that line. That is the whole mechanism. There is no income tax saving — profit still passes through to your personal return either way, and the qualified business income deduction is available to sole proprietors, LLCs and S corporations alike.
Two things limit how far this goes. Above the Social Security wage base of $184,500, the Social Security portion stops on both sides, so the marginal saving drops from 15.3% to 2.9%. And the salary cannot be set wherever you like.
The IRS requires an S corporation to pay reasonable compensation to a shareholder-employee for services provided before non-wage distributions are made. If the salary is unreasonably low, the IRS has authority to reclassify distributions as wages, with back payroll tax, interest and penalties.
This matters for the decision in front of you because it sets a floor. The saving is 15.3% of the distribution side only, and the salary side cannot be compressed at will — so the benefit is always smaller than "15.3% of profit." A business that cannot support a meaningful distribution after paying the owner properly has little to gain from the election.
Setting that number is its own exercise, and it is the most common failure point of the strategy. We cover the test the IRS applies, the factors it weighs and the court decisions behind them in our guide to S-corp reasonable salary.
The saving is real. So are the costs, and they are usually understated:
The assumptions behind these numbers, stated plainly:
Sole proprietor or default LLC: $60,000 × 92.35% = $55,410 of net earnings, taxed at 15.3% = $8,478 in self-employment tax.
S-corp, $40,000 salary and $20,000 distribution: payroll tax of 15.3% on the salary = $6,120.
Gross saving: $2,358. Against that, set payroll administration and a second tax return. At this level those costs frequently consume most or all of the saving. The election is close to a wash, and the extra obligations are real.
Sole proprietor or default LLC: $100,000 × 92.35% = $92,350, taxed at 15.3% = $14,130.
S-corp, $65,000 salary and $35,000 distribution: 15.3% on $65,000 = $9,945.
Gross saving: $4,185. After compliance costs, a meaningful net saving remains. This is the region where the election usually starts to make sense for a service business.
Sole proprietor or default LLC: $200,000 × 92.35% = $184,700. The Social Security portion applies to $184,500 at 12.4% = $22,878; Medicare applies to the full $184,700 at 2.9% = $5,356. Total $28,234.
S-corp, $120,000 salary and $80,000 distribution: 15.3% on $120,000 = $18,360.
Gross saving: $9,874. At this level the compliance cost is typically a small fraction of the gross saving, so the election is more likely to be worthwhile — though the net result still depends on the salary your circumstances support and on what your state and city charge.
Around $60,000 of profit is a reasonable rule of thumb for when the election begins to earn its keep, but it moves with the facts. A business whose profit comes mostly from the owner's own labour supports a high salary and saves less. A business where employees and equipment generate the revenue supports a lower salary and saves more. Payroll and preparation costs differ. And the state and city you operate in can move the answer by thousands, which is the next section.
For some businesses the tax arithmetic never gets a vote, because S-corp eligibility rules rule it out.
To qualify, the IRS requires that the company be a domestic corporation, have no more than 100 shareholders, have only allowable shareholders, and have only one class of stock. Allowable shareholders are individuals, certain trusts and estates — the company "may not be partnerships, corporations or non-resident alien shareholders."
One class of stock is the restriction that does the most damage in practice. It means every shareholder shares profit and distributions strictly in proportion to ownership.
That last restriction is the one that quietly kills the election for growing businesses. If you want an investor who receives a preferred return, or a partner who takes 30% of profit for 20% of equity, an S corporation cannot do it. An LLC taxed as a partnership can, because an operating agreement can allocate profit differently from ownership.
Management differs too. A sole proprietorship has no governance at all. An LLC is governed by its operating agreement and can be run by its members or by appointed managers. An S corporation inherits corporate formalities — directors, officers, meetings, minutes — even where the underlying entity is an LLC.
If you intend to raise outside capital, bring in institutional investors or eventually sell to a corporate buyer, these constraints usually matter more than the payroll tax saving.
Federal break-even math assumes the states are neutral. In this region they are not.
New York does not follow the federal election by default. A corporation that elected S status federally is not treated as a New York S corporation unless it elects that treatment with New York, on Form CT-6 — unless it is mandated to file as an S corporation under Tax Law § 660(i).
That mandate matters for investment-heavy businesses. Shareholders of an eligible federal S corporation that has not elected New York S treatment are deemed to have made the election if the corporation's investment income is more than 50% of its federal gross income for the year. Investment income here means interest, dividends, royalties, annuities, rents and gains from dealings in property, including the company's share of those items from a partnership, estate or trust. Where the election is deemed made, Form CT-3-S is required.
So: New York does not follow the federal election by default, but for some businesses it follows it whether they wanted it or not.
This is the one that catches New York City owners after the election is already made. The Department of Finance states it without qualification: "New York City does not have an S corporation election and does not recognize a New York State S corporation election. In general, federal subchapter S corporations and qualified subchapter S subsidiaries are subject to the GCT."
In practical terms, electing S-corp status in New York City moves you between two city taxes rather than out of them.
As an unincorporated business — a sole proprietor, a partnership or an LLC — you fall under the Unincorporated Business Tax. The city defines the scope broadly: "Unincorporated businesses include trades, professions, and certain occupations of an individual, partnership, limited liability company, fiduciary, association, estate, or trust." The rate is 4% of taxable income allocated to New York City, and there is a credit that matters a great deal at smaller scale: "A liability of $3,400 or less is allowed a credit for the full amount of the tax. Liabilities between $3,401 and $5,400 are allowed a partial credit."
That credit does real work at smaller scale. A UBT liability at or below $3,400 is cancelled outright, and liabilities up to $5,400 are reduced. Many smaller unincorporated New York City businesses therefore pay no UBT at all. Where your own business sits against those bands depends on your UBT taxable income, which is not simply your net profit — it is calculated after the allowances that apply to an unincorporated business.
Make the S election and you leave the UBT and enter the General Corporation Tax, charged at 8.85% of net income allocated to the city for most taxpayers, and computed under whichever of four bases produces the largest amount of tax. Your salary is deductible to the corporation, so it reduces the GCT base — but the city charge does not disappear, and for a business that was fully sheltered by the UBT credit it can appear where there was previously nothing.
The consequence is the point: a New York City owner can make a federal S election that saves several thousand dollars in payroll tax and hands a meaningful share of it straight back at the city line. The election can still be right. It cannot be evaluated on the federal numbers alone. Our New York corporate tax page covers what the state and city expect once the company is a corporation for tax purposes.
New Jersey eliminated the separate state S corporation election under P.L. 2022 c.133. This is widely reported as "New Jersey is now automatic, nothing to do," and that is the opposite of the guidance.
The state's position is explicit: without exception, federal S corporations and Qualified Subchapter S Subsidiaries must be registered with DORES as a corporation, must provide proof that they received federal S corporation status, and must submit the Shareholder Jurisdictional Consent — the shareholders' acknowledgement that New Jersey may tax each shareholder's S corporation income regardless of where that shareholder lives. Every shareholder must be listed with their ownership percentage, and it is completed during NJ-REG registration alongside the federal approval letter.
There is a specific trap for converting LLCs. An entity previously registered as anything other than a corporation — an LLC registered as a 1065 filer, for instance — must first change its ownership type to 1120 filer through a Business Entity Conversion or Domestication filing before New Jersey will recognise it as a New Jersey S corporation.
The obligation continues after registration: any change in shareholders or stock ownership must be reported, on Schedule SJC within Form CBT-100S.
California imposes two things on an S corporation, and the Franchise Tax Board frames them separately.
First, "S corporations are subject to the annual $800 minimum franchise tax." It is due in the first quarter of each accounting period and is payable "whether your corporation is active, inactive, operates at a loss, or files a return for a short period."
Second, "We tax every S corporation that has California source income 1.5%."
The first-year rule is not what most secondary coverage says. California waives "the minimum tax on newly formed or qualified S corporations filing an initial return for their first taxable year" — but, verbatim, "any first-year net income is still subject to the 1.5% tax rate." The minimum is waived. The 1.5% is not.
For a California business, the 1.5% charge comes directly off the federal saving. On $200,000 of profit that is $3,000 a year, and it has to be subtracted before the election looks as good as the federal arithmetic suggests. Our California corporation and partnership tax page sets out the filing side of that.
A consultant with $150,000 of profit faces a different decision in each place. In New Jersey the federal saving largely survives, provided the registration steps are completed properly. In California roughly $2,250 of it goes to the 1.5% charge before anything else. In New York City a share of it returns to the city through the GCT, and the business may have been paying no UBT at all beforehand.
There is no national break-even figure. There is a federal calculation, and then there is what your state and city do to it.
Presented as three fixed options, this decision looks like something you get right once. In practice it is a sequence, and each step has a trigger.
Sole proprietor to LLC is triggered by exposure, not by profit. Taking on employees, signing a lease, working on client premises, handling customer data or reaching the point where losing a claim would be unrecoverable — any of these justifies the filing. Profit level is close to irrelevant, because the LLC changes nothing about tax.
LLC to S-corp election is triggered by profit, and by profit that is stable. The arithmetic above starts to work somewhere around $60,000, but a business with volatile profit should wait. Payroll runs whether or not the money arrived, and unwinding an election is harder than making one.
Staying put is a legitimate outcome at both stages. The costs of the election are certain and recurring, while the saving scales with profit and with how much of it can sit on the distribution side. Where profit is below the break-even, or the salary a business can defend leaves little to distribute, or state and city charges absorb much of the federal saving, leaving the structure alone is often the better result.
1. Is an LLC a sole proprietorship?
No, though a single-member LLC is taxed as one by default. The IRS treats it as a disregarded entity, so the income goes on Schedule C exactly as a sole proprietor's would. The legal position is entirely different: the LLC separates business liabilities from your personal assets, and a sole proprietorship does not.
2. Who pays less tax, an LLC or an S-corp?
On income tax, neither — both pass profit through to your personal return. The difference is payroll tax. A default LLC pays self-employment tax on all profit; an S corporation pays it only on the owner's salary. Whether that produces a net saving depends on profit level, a defensible salary, compliance costs and your state.
3. At what profit does an S-corp start to make sense?
There is no single figure. Roughly $60,000 of net profit is where the payroll tax saving typically begins to approach the cost of running payroll and filing a separate return, and the margin tends to widen as profit rises. Whether it works in your case depends on the salary your circumstances support — the saving applies only to what remains after reasonable compensation — on what your compliance actually costs, and on how your state and city treat an S corporation. A business in California or New York City keeps less of the federal saving than the same business elsewhere.
4. What is the biggest disadvantage of an LLC?
That owners expect it to do more than it does. It provides liability protection and nothing else by default — no tax reduction, and no protection against your own professional negligence, personal guarantees, or your own failure to keep business and personal finances separate.
5. What is the downside of being an S-corp?
Obligation and rigidity. You must run payroll, file a second return, pay yourself a defensible salary, and accept the eligibility limits — no more than 100 shareholders, only one class of stock, and no partnership, corporation or non-resident alien among the shareholders. Some states charge S corporations directly, and New York City does not recognise the status at all.
6. Can I switch from sole proprietor straight to an S-corp?
Not in one step. A sole proprietorship has no entity capable of making the election, so you first form an LLC or a corporation, then file Form 2553.
7. Does an LLC protect me from everything?
No. It does not cover your own negligence, it does not survive a personal guarantee, and it can be set aside where the separation between you and the company was not genuinely maintained.
8. Should I pay myself a salary from my LLC?
If the LLC is taxed by default, you cannot — owner draws are not wages and are not deductible. If the LLC has elected S-corp status, a reasonable salary is mandatory before distributions.
9. Does New York City treat my S-corp as an S-corp?
No. The city does not have an S corporation election and does not recognise the New York State election. Federal S corporations are generally subject to the General Corporation Tax.
The decision comes down to three questions in order: what liability you are carrying, how much profit the business reliably produces, and what your state and city do to the federal arithmetic. Answer them in that sequence and the structure usually selects itself.
If you are weighing this with real numbers in New York, New Jersey or California, our team can model the break-even on your actual profit, establish a salary that holds up, and handle the state registrations that go with it.
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