The decision about how to structure your business is one of the most consequential tax decisions you will make. Different entity types are taxed differently, have different liability profiles, and create different opportunities for tax planning. The right choice depends on your specific situation—income level, growth plans, number of owners, and industry.
Sole Proprietorship
A sole proprietorship is the default for individual business owners. All income is reported on Schedule C of your personal return and is subject to both income tax and self-employment tax (15.3% up to the Social Security wage base). The simplicity is the advantage; the high self-employment tax is the disadvantage.
LLC Taxed as Partnership or Disregarded Entity
An LLC with one member is taxed identically to a sole proprietorship by default. An LLC with multiple members is taxed as a partnership. Either can elect to be taxed as an S-Corp or C-Corp. The LLC itself is a legal structure, not a tax classification—the tax treatment depends on the election made.
C-Corporation
C-Corps are taxed as separate entities at the flat 21% corporate rate. Double taxation occurs when profits are distributed as dividends—taxed at the corporate level and again at the shareholder level. However, C-Corps can retain earnings at the lower corporate rate, which can be advantageous for businesses that reinvest heavily.
Key Takeaways
- Sole proprietors and single-member LLCs face full self-employment tax on all business income.
- The S-Corp election reduces payroll taxes on income above a reasonable salary.
- C-Corps offer the flat 21% rate and retained earnings planning but create double taxation on distributions.
