First, we can pretty much dismiss income tax considerations. By default, an LLC is not taxed as a separate entity but a corporation is taxed separately. However, there are ways to override the default tax treatments. An LLC may elect to be taxed as a separate entity by filing IRS Form 8832. Subject to certain limitations, a corporation can avoid separate taxation (i.e., can become an “S corporation”) by filing IRS Form 2553.
The following are the factors that, in my experience, are most likely to lead an entrepreneur to form a corporation rather than an LLC:
- An expectation that outside funding will be sought, especially from institutional investors. Venture capitalists, in particular, tend to invest only in corporations.
- A desire to offer tax-advantageous equity ownership interests to employees and independent contractors. This is more straightforward to accomplish with a corporation than with an LLC.
- Prospective customers may feel that a corporation is more substantial and more “real” than an LLC. This is a marketing and sales consideration.
The most significant disadvantage of a corporation is compliance-related overhead. There is a need to conduct annual shareholder meetings and regular board meetings and to prepare and file minutes for those meetings.
What I have seen among my clients: If none of the pro-corporation factors is present, the client will form an LLC to avoid the expense and effort associated with compliance-related tasks.
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- Why (not) form an S corporation?
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- Statements of Information: Easy is Good
This blog does not provide legal advice and does not create an attorney-client relationship. If you need legal advice, please contact an attorney directly.