Choosing the Right Business Structure
Your entity type determines how you pay taxes, how much personal liability you carry, and how you can raise money. This guide compares the four main business structures so you can make an informed decision.
Limited Liability Company (LLC)
Most PopularAn LLC is a business structure recognized by all 50 states that separates your personal assets from your business. It combines the liability protection of a corporation with the tax simplicity of a sole proprietorship. The LLC itself does not pay federal income tax. Instead, profits and losses pass through to the owners' personal tax returns.
Taxation
By default, a single-member LLC is taxed as a "disregarded entity" (reported on Schedule C), and a multi-member LLC is taxed as a partnership (each member receives a K-1). LLC members pay self-employment tax (15.3%) on their share of profits. LLCs can also elect S-Corp or C-Corp taxation with the IRS if a different tax treatment is more advantageous.
Governance & Formalities
LLCs have minimal formalities. Most states do not require annual meetings, corporate minutes, or boards of directors. The LLC's Operating Agreement (an internal document, not filed with the state) defines ownership percentages, profit distribution, management roles, and what happens if a member leaves.
- Articles of Organization filed with the state
- Operating Agreement (internal, not filed)
- Annual report in most states
- No required annual meetings
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Corporation
A corporation is the standard corporate structure in the United States. It is a separate legal entity that can own property, enter contracts, and sue or be sued independently of its owners. Corporations can issue multiple classes of stock, have unlimited shareholders of any nationality, and retain earnings within the company. This makes them the required structure for venture-backed startups and companies planning an IPO.
Taxation
Corporations pay a flat 21% federal corporate income tax on profits (set by the Tax Cuts and Jobs Act of 2017). When the corporation distributes dividends to shareholders, those dividends are taxed again on the shareholders' personal returns. This is "double taxation." However, corporations can retain earnings within the company, reinvest profits, and deduct more types of business expenses than pass-through entities. Note that the IRS imposes an accumulated earnings tax (20%) on profits retained beyond the reasonable needs of the business, so retained earnings cannot be used indefinitely to avoid dividends. On the upside, corporation shareholders may qualify for the Qualified Small Business Stock (QSBS) exclusion under Section 1202, which can allow up to 100% exclusion of capital gains on stock held for more than five years.
Governance & Formalities
Corporations must maintain formal governance: a board of directors, corporate officers (at minimum: President/CEO, Secretary, Treasurer), written bylaws, annual shareholder and board meetings, and corporate minutes. Failing to observe these formalities can result in "piercing the corporate veil," where a court ignores the corporate structure and holds owners personally liable.
- Articles of Incorporation filed with the state
- Corporate Bylaws adopted
- Board of directors and officers appointed
- Annual shareholder and board meetings with written minutes
- Stock certificates issued and stock ledger maintained
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S-Corporation
An S-Corporation is not a separate type of business entity. It is a tax election made by filing IRS Form 2553. An LLC or a corporation can elect S-Corp taxation. The key advantage is that S-Corp owners who work in the business pay themselves a "reasonable salary" (subject to payroll taxes), while remaining profits are distributed as dividends that are not subject to self-employment tax.
Taxation
S-Corps are pass-through entities: the business itself pays no federal income tax. Profits and losses flow to shareholders' personal returns via Schedule K-1. The self-employment tax savings come from splitting income between salary (taxed at 15.3% for FICA) and distributions (not subject to FICA). The IRS requires that salaries be "reasonable" for the work performed. Paying yourself $1 in salary to avoid payroll taxes will trigger an audit.
Governance & Formalities
If the underlying entity is a corporation, it must follow corporate formalities: board meetings, corporate minutes, bylaws, and stock records. If it's an LLC with an S-Corp election, the LLC's simpler governance applies. Either way, the S-Corp must maintain accurate records of salary payments, distributions, and shareholder basis. Additionally, all S-Corps must comply with IRS eligibility requirements, including a limit of 100 shareholders, restrictions on who can be a shareholder (U.S. citizens or residents only, no corporate or partnership owners), and a single class of stock rule requiring identical distribution and liquidation rights for all shares.
- IRS Form 2553 filed within 75 days of formation (or by March 15)
- Reasonable salary paid to owner-employees
- Payroll tax filings (quarterly 941s, annual W-2s)
- K-1 issued to each shareholder annually
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Nonprofit Corporation
A Nonprofit Corporation is formed at the state level like any other corporation, but it is organized for a charitable, educational, religious, scientific, or literary purpose rather than to generate profit for owners. After state formation, the organization applies to the IRS for 501(c)(3) tax-exempt status using Form 1023 (or Form 1023-EZ for smaller organizations). Tax-exempt status means the organization does not pay federal income tax on revenue related to its mission.
Taxation
Once granted 501(c)(3) status, the organization is exempt from federal income tax on mission-related revenue. Donations to the organization are tax-deductible for donors. Nonprofits must file IRS Form 990 annually (or Form 990-EZ for organizations with gross receipts under $200,000 and assets under $500,000). Unrelated business income (revenue from activities not related to the organization's exempt purpose) is subject to Unrelated Business Income Tax (UBIT).
Governance & Formalities
Nonprofits are governed by a board of directors (sometimes called a board of trustees). Directors have a fiduciary duty to the organization and cannot receive unreasonable compensation. Unlike for-profit corporations, nonprofits have no shareholders or owners. The organization's assets must be used for its stated purpose, and if the nonprofit dissolves, remaining assets must be distributed to another 501(c)(3) organization.
- Articles of Incorporation filed with the state (must include specific IRS-required language)
- Bylaws adopted by the board
- IRS Form 1023 or 1023-EZ for 501(c)(3) status
- Annual Form 990 filing with the IRS
- State charitable solicitation registration (in most states)
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How Do They Compare?
A side-by-side look at the key differences between LLCs, S-Corps, Corporations, and Nonprofits.
LLC Most Popular | Corporation | S-Corp | Nonprofit | |
|---|---|---|---|---|
| Liability Protection | Yes, personal assets protected | Yes, strongest form | Yes, personal assets protected | Yes, for directors and officers |
| Federal Income Tax | Pass-through (personal return) | 21% corporate rate + dividend tax | Pass-through (K-1 to shareholders) | Exempt on mission-related income |
| Self-Employment Tax | 15.3% on all profits | Not applicable (shareholders are employees or investors) | Only on salary (not distributions) | Not applicable |
| Owners | Members (unlimited, any nationality) | Unlimited shareholders, any nationality | Up to 100 U.S. resident shareholders | No owners, governed by board |
| Stock / Equity | Membership interests (not stock) | Multiple classes (common, preferred) | One class of stock only | No stock, no equity ownership |
| Governance | Operating Agreement (flexible) | Board, officers, bylaws, minutes | Depends on underlying entity | Board of directors, bylaws, Form 990 |
| Ongoing Formalities | Minimal (annual report in most states) | Annual meetings, minutes, stock records | Payroll, K-1s, plus underlying entity | Form 990, state registrations, audits |
| Raising Investment | Possible but less common | Preferred by VCs and angel investors | Limited (100 shareholders, 1 stock class) | Grants and donations (not equity) |
| Best Starting Point | Most small businesses | Venture-backed startups | Profitable owner-operated businesses | Mission-driven organizations |
Frequently Asked Questions
Got questions? We've got answers. Find everything you need to know about choosing a business structure.
Not sure which is right for you?
Most small businesses start with an LLC. It's the simplest structure with the fewest formalities, and you can always add an S-Corp election or convert to a corporation later as your business evolves.
Important Disclaimer: This guide is for educational purposes only and does not constitute legal, tax, or financial advice. Business formation requirements and tax implications vary by state and individual circumstances. Consult a qualified attorney, CPA, or tax professional before making decisions about your business structure.