When to Upgrade Your LLC to an S-Corp (and Why It Matters)

Post #17: Save money and boost your business credibility by electing for S-Corp status with the IRS.

In this Substack, I will walk you through the process of starting, operating, maintaining, and — if needed — selling or closing your own small business.

Today, I’m going to cover why you might want to ‘upgrade’ your small business from LLC (Limited Liability Company) to S-Corp status at the Federal level.

💡 Tip: If you registered your business as a Sole Proprietor or Partnership, you can always convert to an LLC when the timing is right and your business is ready to grow to the next level.

When to Convert your Sole Proprietorship Business to an LLC (Limited Liability Company)

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👉 Subscribe to this Substack if you want to learn how to setup, operate, maintain, scale, etc… a small business. The Journey began with Post #1.

To review:

• You decided on what service or product you want to offer, and realized why you chose this one, and you made a list of ideas for potential business names [Posts 1 & 2].

• You searched for your business name ideas via web search, the Secretary of State business entity search, the US Patent and Trademark Office TESS (online search tool), DNS (for website domains), online map apps for brick and mortar business names, social media for existing handles, and WIPO’s Global Brand Database to ensure that your name has not already been claimed [Posts 3–10].

• You conducted a variety of tests to make sure that your new business name would stand out to potential customers and not cause confusion [Post #11].

• You chose the right business structure for your new business, registered your business with the local Secretary of State, registered a DBA to boost your brand, and requested an EIN from the IRS [Posts 12-15].

• You discovered the pros and cons of converting from a Sole Proprietorship to an LLC [Post 16].

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Choosing S-Corp Status for Your LLC

While LLCs provide flexibility and liability protection, electing S-Corp status (a form of Corporation) can offer significant tax advantages for small business owners.

In an LLC, all profits are typically subject to self-employment taxes (Social Security and Medicare), which can add up quickly. By electing S-Corp status, a portion of the business’s income can be treated as a salary (subject to employment taxes), while the remaining profit is distributed as dividends (which are not subject to self-employment taxes).

💡 Tip: as we proceed on this Journey, I’ll cover more of these topics: paying yourself a salary, paying out dividends, employment taxes, self-employment taxes, business income, and more! Subscribe to be notified when these topics are released!

The structure of an S-Corp can reduce your overall tax burden, especially for businesses with consistent profits.

Additionally, being an S-Corp improves your business’s credibility with investors and lenders, as it shows that your business structure is more formalized with stricter compliance requirements.

For business owners aiming to grow or manage tax liability effectively, the S-Corp election is often a strategic choice.

Liability Protection and the Corporate Veil

One of the key benefits of structuring your business as an S-Corp is the liability protection it offers through the corporate veil.

The “corporate shield” or “corporate veil” is the idea that the shareholders, officers, and directors of a corporation will not be held personally liable for the actions of the corporation. It is also available to some other types of entities, such as a limited liability company or LLC… (Source).

In other words, if the business is sued or incurs debts it cannot pay, creditors can generally only go after the business’s assets, not the personal assets of the owners.

To maintain this protection, S-Corps must operate as a distinct entity by keeping separate bank accounts, maintaining proper records, and adhering to corporate formalities such as holding regular meetings and documenting decisions.

This layer of protection is invaluable for small business owners who want to limit their personal financial risk.

💡 Tip: you can learn all about what is needed to maintain the corporate veil in future articles! Subscribe to learn more!

Steps to Elect S-Corp Status at the Federal Level

Once you’ve registered your business with your Secretary of State and acquired an Employer Identification Number (EIN) from the IRS, you have what is needed to elect S-Corp status for your business.