When to Elect S-Corp Status (And When Not To)

If you are a profitable single-member LLC, there is a good chance someone has told you to "elect S-Corp" to save on taxes. They are probably right, but the savings are not as automatic as the advice suggests. Here is the actual math.

What the S-Corp election does

By default, a single-member LLC is taxed as a sole proprietorship. All of your business profit is subject to self-employment tax (15.3% on the first $168,600 of profit in 2025, then 2.9% above that) in addition to regular income tax.

When you make the S-Corp election, you become an employee of your own company. You pay yourself a "reasonable salary" out of profits. The salary is subject to payroll tax (which is the same 15.3% rate, split between you and the company), but the remaining profit, taken as a distribution, is not subject to self-employment tax.

An example

Suppose your single-member LLC earns $150,000 in net profit. You are a consultant in Texas.

Without the S-Corp election

• $150,000 of net profit, all subject to self-employment tax at 15.3%
• Self-employment tax: $22,950

With the S-Corp election

Suppose you pay yourself a reasonable salary of $75,000 (typical for this profit level in this industry; the IRS expects salary to be reasonable for the work performed).

• $75,000 salary, payroll tax at 15.3% = $11,475
• $75,000 distribution, no self-employment tax
• Total payroll/SE tax: $11,475

You save $11,475 per year. That is real money.

What you also pay for

The S-Corp election creates new obligations.

• Payroll for yourself. You need to run payroll, withhold federal and state taxes, file quarterly payroll returns, issue yourself a W-2 at year end. Most payroll services charge $40 to $80 per month for a single employee.
• An S-Corp tax return. Your S-Corp files Form 1120-S annually, separate from your personal Form 1040. CPA preparation typically runs $800 to $1,500 per year.
• Reasonable compensation requirement. The IRS has audited S-Corps that pay artificially low salaries to minimize payroll tax. The salary must be reasonable for the work performed.
• State-specific franchise taxes. Some states (California, Tennessee, others) impose a minimum franchise tax on S-Corps regardless of profit. California's is $800 per year.

The break-even

Roughly speaking, the S-Corp election starts to pay off when your net profit exceeds $50,000 to $60,000. Below that, the new costs of payroll and a separate tax return usually eat up the self-employment tax savings.

The rule of thumb: if you are netting more than $60,000 per year as a single-member LLC, the S-Corp election is worth a serious conversation with a CPA.

Common mistakes

Paying yourself too little salary

The most common audit risk. If your S-Corp earns $200,000 and you pay yourself a $20,000 salary, the IRS will likely reclassify some of the distribution as salary and assess back payroll tax plus penalties. The Tax Court has issued multiple opinions on what is "reasonable" and the safest approach is to pay yourself something close to what you would earn doing the same work as an employee elsewhere.

Missing the election deadline

Form 2553 is generally due within 2 months and 15 days of the start of the tax year for which you want the election to apply. So for a calendar-year LLC, the deadline is March 15. If you miss that, the election is effective for the following tax year.

The IRS has a procedure for "late S-Corp elections" if you missed the deadline for reasonable cause. We use it routinely for new customers.

Forgetting state-level elections

Some states require a separate election to recognize your S-Corp status for state tax purposes. New Jersey is the most notorious example. If you do not file the state election, you are an S-Corp for federal tax and a regular C-Corp for state tax.

When the S-Corp election is wrong

Not every profitable LLC should elect S-Corp.

• You are below the break-even. If your net profit is under about $50,000, the costs of payroll and the separate return usually exceed the tax savings.
• You plan to raise outside capital. S-Corp restrictions on shareholders (no more than 100, all US individuals, only one class of stock) are incompatible with most venture financing.
• You plan to add foreign owners. S-Corp shareholders must be US persons.
• Your business has heavy fluctuating profit. A bad year still requires the payroll machinery and the separate return.

How to make the election

You file IRS Form 2553. It is two pages. The form needs the signatures of all owners, basic entity information, the effective date of the election, and a tax-year selection.

If you form an LLC with File.Business and meet the profit threshold, we file Form 2553 for you for $99 (included free on the Growth plan). Most elections are accepted within 60 days.

The takeaway

The S-Corp election is one of the most reliable tax-planning moves available to profitable single-member businesses. It is also not free, and it is wrong for some situations. Run the math, talk to a CPA, and make the election with eyes open.