I am frequently asked this question by founders–is there a potential for employment tax savings if an S corporation is the choice of entity rather than a limited liability company?
The short answer is yes–there is a potential for employment tax savings.
The reason for this is because with an S corporation employment taxes only apply to the salaries paid to the owners, not to dividends. With a limited liability company, an owner must pay self employment taxes on the owner’s entire distributive share of self employment income. Self employment taxes are 15.3% of self employment income up to the FICA wage base limit, and then 2.9% of self employment income beyond the FICA wage base limit.
The catch? S corporations must pay their owners a reasonable salary. This is a hot button issue for the IRS. The corporation itself must also pay federal unemployment tax on salaries.
The upside? Potentially significant employment tax savings.