S Corporation or LLC?

I am frequently asked by founders of new businesses who want a pass through company for tax purposes whether they should organize their new company as an S corporation or a limited liability company.  It depends on the circumstances, but if the founders anticipate having a company which will grow rapidly, want to grant equity compensation to many new hires, and ultimately may either go public or be sold in an M&A transaction, I recommend an S corporation (assuming the entity qualifies to make an S corporation election), for the following reasons:

  1. S corporations can engage in tax free reorganizations, such as tax free stock swaps; in contrast, limited liability company owners have to pay tax on stock received in such transactions;
  2. S corporations can grant traditional types of employee equity, like stock options, more easily; and
  3. S corporations can more easily convert to C corporations in the event of a venture financing or public offering.

That is not to say that a limited liability company may not be the right choice of entity in certain circumstances, but frequently S corporations are a better choice.

About Joe Wallin

Joe Wallin focuses on emerging, high growth, and startup companies. Joe frequently represents companies in angel and venture financings, mergers and acquisitions, and other significant business transactions. Joe also represents investors in U.S. businesses, and provides general counsel services for companies from startup to post-public.
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