Monday, January 23, 2006
Christopher R. Hoyt (Missouri-Kansas City) shares his thoughts on the LLC v. S Corp choice of entity question:
Trends in the real world on "choice of entity" decisions may conflict with the recommendations we might make to students. Generally I prefer an LLC to any sort of corporation, but every year there are twice as many S Corporations formed as there are LLCs. Here's my take from the IRS statistics based on Year 2002 returns:
Partnerships, LLCs, LPs and LLPs:
- 2002 marked the first year that the number of LLC returns outnumbered general partnerships or limited partnerships. However, LLCs as a group have roughly only half of the income of the nation's general partnerships. Furthermore, they only have 40% of the income of the nation's limited partnerships, even though there are twice as many LLCs as there are LPs. I expect LPs have much wealth in real estate and family LPs ("FLPs").
- The growth in the number of LLCs is sky-rocketing as the number of general partnerships tends downward -- there were 20% fewer general partnership returns in 2002 than there were in 1996 and there are 4 times as many LLC returns. The number of limited partnerships is fairly stable -- climbing by 21% over the 6 years from 1996 to 2002.
- LLPs are barely making a dent. If a business is going to operate under a set of laws that is conducive for business, then the LLC laws beat the Unif. Partnership Act laws that are used by LLPs, especially with the rules for dissolutions when one partner quits.
- Real estate and finance/insurance account for nearly 75% of the assets of all businesses operating in any sort of partnership form.
- To my surprise, there were more than twice as many new Subchapter S Corporations in 2002 than LLCs -- I would have thought the opposite would have been the case.
- There were 5.5 million corporate returns filed, of which 3.15 million (59%) were Subchapter S Corporations. Compare that to a total of 2.2 million partnership returns, of which 950,000 were LLCs.
- In 2002, 59% of corporations were Subchapter S corporations. Twenty years ago only 23% of corporations were taxed under Subchapter S and 77% were taxed under Subchapter C. That is a staggering trend away from Subchapter C.
- New businesses:
- Corporations: In 2002, there were roughly 300,000 new S Corps. Roughly 220,000 were new corporations that elected S treatment and 80,000 were Subchapter C corps that switched to Sub S.
- LLCs: In 2002, there were 138,000 additional LLC returns.
Update #1: Joe Kristan offers several reasons why S Corps remain more popular than LLCs:
- Self-employment and FICA taxes
- S corporation liberalization
- General Utilities issues
- W-2 vs. guaranteed payments
- State Issues
- Regulatory restrictions
Update #2: Russ Cox notes two major factors working against LLCs in California:
- All S Corps and LLCs in California must pay a minimum state franchise (income) tax of $800 per year (or 1.5% of net income, whichever is greater). But LLCs also face a gross receipts tax, so LLCs in California are triple-taxed! The current minimum gross receipts tax (called an LLC fee) is $865 per year.
- Some businesses are prohibited from being in an LLC. These include professionals, such as architects and accountants. (They can form LLPs, though).