LLC and a Corporation – What’s the difference.
Business organizations must register as a specific business type in the state that they do business. All the States in the USA recognize businesses formed as limited liability companies otherwise known as LLCS, corporations, or partnerships. One important thing to remember is that an LLC is not a corporation. It is a liability company, so therefore you can’t incorporate a business as a an LLC. However, both register with the state.
Other similarities between the two is that both corporations and LLCS limit the liability of the owners/shareholders from the debts of the business and against lawsuits against the business. In order to keep this protection both types must make sure their operations are separate from the activity of the owners.
Differences between a corporation and an LLC
- 1. Differences in how they are formed
Forming a corporation: A corporation is formed (incorporated) by filing corporate organization documents in the state where the corporation is located. A Board of Directors is also created to oversea the corporate business and the board agrees on operating documents and byelaws. The corporation by a stock corporation, with shares of stock and stockholders, which are the owners of the business.
- 2. Business Ownership: Another difference between an LLC and corporation is that the ownership of the business. The LLC is owned by individuals, and the corporation is owned by individuals who purchase shares. Therefore, LLC owners have an equity interest in the assets of the business because they have a made a contribution to join the business, shown in the business balance sheet as owner’s equity.On the other hand the corporate owners are shareholders or stockholders who have shares of stock.
- 3. Profits and Losses
The profits and losses of an LLC and a corporation are handled differently. In the case of an LLC profits and losses are passed through to the individual owners, while the corporate profits and losses are held by the corporation.
Since LLCS act as Pass-through businesses and the profits and losses of the business pass through to the owners or shareholders. So therefore the income generated by the LLC is considered as the owner’s or shareholders income, and the owner/shareholder will pays the tax on his or her personal tax return. Limited liability companies, like sole proprietorships and partnerships are pass-through entities.
Corporations as Separate Business Entities. The profits and losses of a corporation are held by the corporation and are not passed through to the owners directly, so therefore corporations are separate business entities. Some of the income generated by the corporation is paid to the owners in the form of dividends, but this is not direct. The remaining earnings are usually kept by the corporation.
- 4. Taxes of LLC’s and Corporations
Corporations and LLCS are different in how they are taxed. The reason is because corporations are separate entities and therefore are taxed at the corporate rate, while LLCS are taxed based on the total Adjusted Gross Income of owners. An example is shown below:
A corporation has a profit of $500,000. Therefore, the profit is taxed at the current corporation tax rate of 21%.
If an LLC has the same amount of profit of $500,000 and assuming it has two members, then each would have a share of 50% of income on their personal tax return. Therefore, the income from the LLC is included in the owner’s personal tax return on Form 1040 which is on line 12 and is considered along with the other income that individual makes for that year.
Self-employment Taxes and FICA Taxes. LLC owners are obligated to pay self-employment taxes (Social Security and Medicare) on their share of the LLC’s profit for each year. Corporate shareholders are not considered self-employed so they don’t have to pay this tax. Corporate owners who work as employees have FICA tax (Social Security/Medicare taken from your pay checks.
Other Tax differences between Corporate and LLC Owners and Taxes
Since owners of a corporation are not paid, they receive dividends and then they are taxed on their dividend income. Owners of an LLC are taxed like partners in a partnership; so, therefore they receive a distributive share of the profits each year and pay taxes on that share on their personal tax return.
Owners of an LLC also pay self-employment tax on their income from their business, while n the other hand corporate owners who work in the business are considered employees and pay tax on their employment income, which also includes the FICA taxes (Social Security and Medicare).
Other possibilities
One possibility is to form an LLC and then electing to have the LLC taxed as a corporation in the form of an S corporation. Thereby coming the benefits of an LLC with the tax benefits of a corporation.