LLC vs S-Corp — The 2026 Break-Even Math for Small Business Owners

Stay an LLC taxed as a sole proprietorship or partnership until your net profit reliably clears roughly $60,000 to $80,000 a year; above that line, elect S-Corp taxation because the self-employment tax savings begin to exceed the compliance costs of running payroll and filing an 1120-S. That is the whole trade — everything below is the math, the exceptions, and the mechanics.

Updated September 2026

What each thing actually is

The single biggest source of confusion in this decision is that people talk about "LLC vs S-Corp" as if they are the same kind of thing. They are not.

An LLC is a legal entity

You form an LLC with your state (Secretary of State filing, Articles of Organization, a registered agent, and usually an Operating Agreement). It gives you limited liability protection — your personal assets are shielded from business debts and lawsuits, subject to certain limits. The IRS does not have an "LLC" tax category. By default a single-member LLC is taxed as a sole proprietor (Schedule C on your 1040) and a multi-member LLC is taxed as a partnership (Form 1065).

An S-Corp is a tax election

"S-Corp" refers to Subchapter S of the Internal Revenue Code — a way of being taxed, not a type of entity. You file Form 2553 with the IRS to elect it, and the election can be made by an eligible LLC or by a state-law corporation. Nothing about your legal structure changes when you elect S-Corp status. You still have the same LLC, the same Articles of Organization, the same bank account. What changes is how the IRS taxes the profits.

The practical translation

When someone says "I’m switching from an LLC to an S-Corp," what they really mean is "I’m keeping my LLC and electing S-Corp taxation for it." The legal wrapper stays put. Only the tax rules change.

The self-employment tax problem for LLCs

Every dollar of net profit that flows through a default-taxed LLC to an active owner is subject to self-employment tax at 15.3% — 12.4% for Social Security (capped at the 2026 wage base of $168,600) and 2.9% for Medicare (uncapped). Above roughly $200K single or $250K joint, an additional 0.9% Medicare surtax kicks in.

Self-employment tax is the equivalent of the employer + employee halves of FICA that a W-2 employee splits with their employer. As a sole proprietor or LLC member, you pay both halves yourself. That is on top of ordinary federal income tax and state income tax.

Worked example, LLC default. On $100,000 of net profit, self-employment tax runs $14,130 (net SE income of $92,350 × 15.3%). You also owe federal income tax and state income tax on the remaining profit. The SE tax alone is roughly 14% of gross — and it is due before you take a single dollar in home mortgage or student-loan payments.

The SE tax problem is exactly what the S-Corp election is designed to fix.

How the S-Corp election fixes it

Under S-Corp taxation, the owner-operator must pay themselves a "reasonable" W-2 salary. That salary is subject to FICA (Social Security + Medicare, 15.3% total, split between the S-Corp employer and the employee — but you own both halves, so effectively you pay all of it). Any profits remaining after the salary can be taken as distributions, and distributions are not subject to self-employment or FICA tax.

The reasonable salary requirement

The IRS requires that the salary be "reasonable compensation" for the services the owner performs. If you underpay yourself to minimize payroll tax, the IRS can reclassify the distributions as wages and hit you with back taxes, penalties, and interest. Reasonable comp is judged on industry data, geography, hours worked, and the owner’s specific role — more on this below.

The tax math on a simple case

Worked example, S-Corp. Same $100,000 net profit. Set a $60,000 reasonable salary. Payroll tax on the salary = $60,000 × 15.3% = $9,180. The remaining $40,000 flows as distributions and is not subject to SE tax. Gross SE/payroll tax savings vs. the LLC default = $14,130 − $9,180 = $4,950. That is the top-line benefit.

The top-line benefit is not the number that matters. You have to net out the cost of running an S-Corp.

The compliance cost of an S-Corp

An S-Corp costs meaningfully more to operate than a default-taxed LLC. The costs are boring and predictable, but they are real.

Payroll setup

You need a payroll provider (Gusto, ADP RUN, Rippling, Justworks, or your bookkeeper’s system). Setup is usually $200–$500 one-time, sometimes waived for the first month if you catch a promo. You will also need a federal EIN registered as a payroll deposit filer and a state withholding/unemployment account.

Monthly payroll processing

Ongoing payroll is $40–$150/month, depending on provider and number of employees. Call it $60/month average for a single-owner S-Corp on Gusto or similar. Annual cost: roughly $720.

1120-S tax return

An S-Corp files Form 1120-S, a K-1 to each shareholder, and a state S-Corp return in most states. Expect $800–$1,500 for a competent CPA to prepare it, plus your personal 1040 on top. Simple returns can come in at $600–$800; complex ones with multiple shareholders and state apportionment can hit $2,000+.

Reasonable compensation documentation

You should keep a file — even one page — documenting how you set your salary. Comparable industry data, market comp studies, hours worked, and the specific roles you perform. If the IRS ever audits, this file is your first line of defense. Most CPAs will help you draft it, or a reasonable-comp report from RCReports or a similar service costs $200–$500.

State S-Corp franchise taxes

Some states levy an S-Corp-specific tax on top of the federal treatment. California charges the greater of $800/yr or 1.5% of net income. Illinois levies a personal property replacement tax of 1.5%. Tennessee’s excise tax hits S-Corps at 6.5% of Tennessee-source net earnings. New York City levies a general corporation tax that treats S-Corps as C-Corps for city purposes. If you are in one of these states, the compliance math shifts materially — more on this in the "when not to switch" section.

All-in annual compliance cost

Call it $1,500 to $3,500 per year for a competently run single-owner S-Corp. That is the number to beat with SE tax savings.

Worked examples at $60K, $85K, $120K, and $250K net profit

All examples assume a single-owner LLC, no state income tax complications, and a reasonable salary set at roughly 40–60% of net profit depending on the level and industry.

$60,000 net profit

Break-even. At $60K, the S-Corp is barely worth the paperwork. Most CPAs would say "wait a year."

$85,000 net profit

Clearly worth it. $2,600 net per year, every year, on the same income you were already earning.

$120,000 net profit

$250,000 net profit

*Note: at $250K the LLC default SE tax caps out because the Social Security wage base is $168,600 in 2026. Above that only Medicare (2.9%) applies. So the S-Corp savings gap narrows at very high incomes because the LLC default was already going to cap out on the SS portion. The savings are still real, but they diminish. The bigger benefit at $250K+ is often qualified retirement contributions the S-Corp structure enables.

When to switch (specific triggers)

The clean triggers to elect S-Corp status:

• Net profit has cleared $75K for a second consecutive year and is projected to stay there.
• You want to open a Solo 401(k) with employer contribution capacity (S-Corp W-2 wages make the employer match calculation cleaner than sole prop earned income).
• You want cleaner separation of owner comp from business profit for lender or investor purposes.
• You want to add a spouse or business partner as a shareholder with a defined stake.

When NOT to switch

Just as important:

• Single-year windfall. If you cleared $150K this year but your normal run rate is $50K, do not elect. Reasonable comp compliance and payroll ongoing will erode the savings.
• Unstable or seasonal income. Payroll has to be steady enough to justify the setup. Erratic revenue makes reasonable-comp defense harder.
• You already have a W-2 job maxing out Social Security. If you already earn $168,600 in W-2 wages elsewhere, you have already hit the SS wage base — the SE tax on your side hustle is already only 2.9% Medicare, and S-Corp savings are marginal.
• California LLC. The $800 minimum franchise tax and 1.5% S-Corp levy stack, and the compliance math often does not clear break-even until $100K+.
• You value simplicity over $2,000–$5,000/yr. The paperwork is real. Some owners rationally prefer to write the check to the IRS and skip the payroll setup.

How to elect S-Corp status

The election is made on IRS Form 2553, and it is due within 2 months and 15 days of the beginning of the tax year you want the election to take effect. For a calendar-year taxpayer forming January 1, that means March 15. For a mid-year formation, the deadline is 2 months and 15 days from the formation date.

The full mechanics — line by line, plus what to do about the CP 261 acceptance letter — are in our Form 2553 explained walkthrough.

Late election relief (Rev. Proc. 2013-30)

If you missed the 75-day deadline, all is not lost. Rev. Proc. 2013-30 lets you file a late Form 2553 within 3 years and 75 days of the intended effective date, as long as you have reasonable cause and have been consistently treating the entity as an S-Corp on your books. You attach a statement to the top of Form 2553 that includes the specific language "FILED PURSUANT TO REV. PROC. 2013-30" and a reasonable-cause narrative. The IRS accepts most well-formed late elections. Full walkthrough in our Form 2553 guide.

Reasonable compensation — how the IRS actually thinks about it

"Reasonable comp" is not a formula. The IRS looks at nine factors summarized in a series of court cases (most influentially Watson v. Commissioner) — training and experience, duties and responsibilities, time and effort devoted to the business, dividend history, payments to non-shareholder employees, timing and manner of paying bonuses, what comparable businesses pay for similar services, comp agreements, and the use of a formula to determine comp.

Practical benchmarks

For most single-owner service businesses (agencies, consultancies, freelance operations), reasonable comp is often 40–60% of net profit or the market rate for a W-2 employee doing the same work, whichever is defensible. A copywriter clearing $100K in an S-Corp cannot pay themselves $20K — the IRS will point to Glassdoor data showing copywriters make $70K+ in most metros. A software engineer running a solo consulting shop who bills $250/hr cannot pay themselves the equivalent of $50/hr full-time.

Where the data comes from

Reasonable-comp defense usually cites Bureau of Labor Statistics OES data, industry surveys, RCReports, or CPA-produced comp studies. Keep a one-page memo in your files each year with the salary decision and the data behind it.

If you are figuring out estimated taxes on top of all this, our guide on quarterly estimated taxes for solopreneurs covers safe-harbor rules for both LLC and S-Corp filers. And if you are running multiple entities or thinking about asset protection stacks, the holdco structure guide shows how S-Corps fit into a parent-holding architecture. For state-level decisions on where to form in the first place, see the best state to form an LLC.

Frequently Asked Questions

Do I need to dissolve my LLC to become an S-Corp?

No. You keep your LLC exactly as it is and file Form 2553 with the IRS to elect S-Corp taxation. The LLC remains your legal entity; only the tax treatment changes.

Can a single-member LLC be an S-Corp?

Yes. A single-member LLC can elect S-Corp taxation as long as the sole member is an eligible S-Corp shareholder (US individual, certain trusts, or estates). Non-US owners cannot elect S-Corp status.

What is the deadline to file Form 2553?

Two months and 15 days after the beginning of the tax year you want the election to take effect. For a calendar-year LLC that means March 15 for a January 1 effective date. Late elections up to 3 years and 75 days out may qualify for relief under Rev. Proc. 2013-30.

How much does an S-Corp cost per year to run?

Roughly $1,500 to $3,500 in compliance costs annually, covering payroll processing, the 1120-S tax return, and reasonable-comp documentation. High-cost states like California add an $800 minimum franchise tax and additional levies.

Can I switch back from S-Corp to LLC?

Yes, by revoking the S election. You cannot re-elect for 5 years after revocation except with IRS consent, so revoke deliberately, not casually. Talk to a CPA before revoking.

Is an S-Corp better than an LLC for asset protection?

No. Asset protection comes from the legal entity (the LLC or corporation), not the tax election. An LLC taxed as an S-Corp has the same asset protection as an LLC taxed as a sole prop.

Do I still file a Schedule C if I have an S-Corp?

No. S-Corp income flows to you on a K-1, which you report on Schedule E of your 1040. Schedule C is only for sole proprietors and single-member LLCs taxed as sole props.

Can an S-Corp have retained earnings?

Yes, but any earnings are taxed to shareholders in the year earned regardless of whether they are distributed. You do not get to defer tax by leaving profits in the S-Corp.

What is a reasonable salary for an S-Corp owner?

It depends on industry, geography, hours worked, and role. A common heuristic is 40–60% of net profit or the W-2 market rate for the equivalent role, whichever is defensible against IRS scrutiny. Document your reasoning in writing each year.

Does an S-Corp save me on income tax?

No. S-Corp savings come from reduced self-employment and payroll tax. Federal and state income tax rates on the profits are the same whether you take them as salary or distributions. The savings are on the 15.3% FICA piece.