Benefits of the LLC, Limited Liability Company
For the sole proprietor, who typically has personal assets and business assets, the formation of the enterprise into an LLC will provide greater protection for the personal assets, such as the home, the savings, the car. By law, creditors are not allowed to come after your personal assets in order to collect a business debt. The taxation for an LLC is flexible, as well. You can, if you choose, continue to file a Schedule C on your individual tax return, or you can incorporate.
The fees to form the LLC vary by state, and are very reasonable. In Kansas, the Secretary of State takes $165, and in Missouri, $50.
Benefits of the S-Corp
There are further benefits to incorporating your LLC. There is no fee to register as an S-Corp, and the tax savings can be significant. An S-Corp (Sub-section S of chapter one of the internal revenue code) does not pay taxes. Instead, the net profit or loss is passed through on a K-1 form to the individual shareholders to record on their personal tax returns. Where is the savings? The owner will pay him or herself a nominal salary, such as would be required to hire a stranger to perform similar duties. The S-Corp deducts the salary and payroll taxes, and the resulting net income is classified as a dividend to the shareholder, which is typically taxed at a lower marginal rate. And the nice thing is, that dividend is exempt from the self-employment tax of 14.3%
Here is an example: The business will earn $50,000 after expenses. Instead of paying self-employment tax on the whole amount, the owner pays himself a salary of $20,000, either imputed or actually paid. The $30,000 remainder is distributed to the owner as a dividend, which means a savings on the self-employment tax of around $4,290 ($30,000 x 14.3%). The impact will vary with differing levels of income.