Single Member LLC to S-Corp Conversion: What You Need to Know , Pt. 1

  • Why would I convert my single member LLC to an S-Corp?
  • What are the benefits of an S-Corp?
  • What should I be aware of? Are there restrictions?
  • How do I do it? What are the requirements?
  • Can you show me an example of how tax is different between an S-Corp and a Single-Member LLC?

As a CPA, I hear these questions a lot in my field. S-Corps are a popular business structure, and for good reason. That’s why I’ve put together a comprehensive, two-part series for you to answer your burning questions.

In this first post, I’ll cover the nuts and bolts: what a single member LLC is, what defines an S-corp, and how to convert to S-corp status. Let’s get started!

For Tax Purposes, What is a Single Member LLC?

It’s first helpful to understand what a single member LLC is. Here’s what the IRS says about single member LLC’s:

For income tax purposes, an LLC with only one member is treated as an entity disregarded as separate from its owner, unless it files Form 8832 and elects to be treated as a corporation. However, for purposes of employment tax and certain excise taxes, an LLC with only one member is still considered a separate entity.

A single member LLC offers additional legal protections over a common sole proprietorship, but you’re still subject to the same tax as a self-employed individual (income tax and self-employment taxes). All activity gets reported on your personal income tax return.

S Corporations, As Defined by the IRS

The IRS offers a simple definition of an S-Corp:

“S corporations are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income.”

Important to Note: While sole proprietorships, partnerships and S corporations are all considered pass-through entities for income tax purposes, each is taxed differently. If you need to know more about specific business structures, you might want to check out the Small Business Administration (SBA) website, where they have a great outline you can reference.

How to Convert a Single Member LLC to an S-Corp

The IRS has specific guidelines as far as what corporations may qualify for S-Corp status.

To qualify, the corporation must:

  • Be domestic
  • Not have greater than 100 shareholders
  • Have only a single class of stock
  • Shareholders can be individuals, certain trusts and estates – but cannot be partnerships, corporations or non-resident alien shareholders

Some corporations are not eligible, including certain certain financial institutions, insurance companies, and domestic international sales corporations.

If you qualify and you’re ready to become an S corporation, you’ll need to submit Form 2553 Election by a Small Business Corporation which must be signed by all shareholders. You can refer to the IRS Instructions for Form 2553 to learn more about filing requirements. The IRS also offers a webinar on S Corporations that you may find helpful – access that here.

You must file the form within 2.5 months of the date you want it effective for. For example, if you want it effective for Jan 1st, you must file Form 2553 by March 15th. It can be done mid year but note that you’ll have to split your activity between the PRE and POST election.

Keep in mind that converting to an S-Corp isn’t as quick and easy as simply filing a one-time form with the IRS. Once you’re officially an S-Corp, you’ll have to comply with IRS tax filing requirements, as well as stay in compliance with the regulations of your state.

As an S-Corp, you’re required to file an annual federal tax return, federal Form 1120S. This is different from traditional corporations, which file federal form 1120. As Nolo.com explains, “Because an S corporation is a pass-through entity, more of the information included on an S corporation’s federal tax return is for informational purposes than a traditional corporation’s tax return.”

Stay tuned for Part 2 in our summer series, where I’m covering the benefits and drawbacks of converting your single member LLC to an S-Corp. Plus, I’ll share a detailed example of a hypothetical company comparing different tax scenarios.

Have more questions? Not sure if converting your single member LLC to an S-Corp is right for you? Let’s chat! Reach me at 207-522-1014 or Tracy@TracyCassidy.com to see how I can help you achieve your business goals.

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