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How to Choose a Business Structure: Sole Proprietor, LLC, S-Corp or C-Corp

Last reviewed October 2026 by the 1099tax.app team. These tools give estimates, not tax or legal advice.

When you start earning money on your own, one of the first questions people ask is, “Should I form an LLC?” The honest answer is: it depends on what you're trying to fix. The legal form of a business (sole proprietorship, LLC, corporation) and the way it's taxed (as a sole proprietorship, partnership, S-Corp or C-Corp) are two separate choices. Mixing them up leads to a lot of costly advice. This guide walks through each option in order of complexity, so you can pick the simplest one that does the job.

Two different questions

  1. Legal structure, set under state law. Does the business exist separately from you, and does it limit your personal liability?
  2. Tax classification, set under federal tax law. How does the IRS tax the profit?

An LLC is a legal structure. By default, the IRS taxes a single-member LLC exactly like a sole proprietorship, and a multi-member LLC like a partnership. An LLC can also elect to be taxed as an S-Corp or a C-Corp. That's why “LLC vs S-Corp” isn't really an either/or choice: many S-Corps are LLCs that made an election.

Option 1: Sole proprietorship

What it is: you, doing business, with no separate entity. If you freelance under your own name, you already are one.

Tax: profit goes on Schedule C of your personal return. You pay income tax plus self-employment tax of 15.3% on 92.35% of net profit. The Social Security part stops at $184,500 of combined wages and SE earnings in 2026 (SSA). You may also qualify for the 20% Qualified Business Income (QBI) deduction.

Good for: testing an idea, low-risk freelance work, and anyone who wants the least paperwork.

Downside: no legal separation. If the business is sued or owes money, your personal assets can be at risk.

Option 2: Limited liability company (LLC)

What it is: a state-registered entity that generally shields your personal assets from business debts and lawsuits, as long as you keep business and personal finances separate.

Tax: by default, the same as a sole proprietorship (one owner) or partnership (two or more owners, filing Form 1065 with K-1s). Forming an LLC alone doesn't lower your federal taxes.

Costs: state filing fees and, in some states, annual fees or taxes. California, for example, charges LLCs an $800 annual minimum tax. Our LLC & Trust State Planner compares states.

Good for: businesses with real liability risk (clients, contracts, employees, property) that want protection without extra tax filings.

Option 3: S-Corp election

What it is: a tax election (IRS Form 2553) available to an LLC or corporation with no more than 100 eligible shareholders and one class of stock. Nonresident aliens can't be shareholders.

Tax: the business pays you a reasonable salary through payroll, with 15.3% FICA split between you and the company. The rest of the profit passes to you as a distribution, which carries no FICA or SE tax. That's where the savings come from. Profit is reported on Form 1120-S, with a K-1 to each owner.

Costs: payroll service, a separate business return, state fees (California charges S-Corps 1.5% of net income with an $800 minimum), and more bookkeeping.

Good for: steady profit well above what a reasonable salary for your role would be. Our LLC vs S-Corp calculator finds your breakeven.

Option 4: C-Corporation

What it is: a corporation taxed on its own profit at a flat 21% federal rate. Shareholders pay tax again on dividends, which is the “double tax.”

Good for: businesses raising venture capital, planning to reinvest profits for years, or hoping to qualify for the qualified small business stock exclusion when they sell. Usually not the best fit for a solo service business that pays out its profit.

A worked example

A self-employed marketing consultant, single, is at three stages:

  • Year 1, $30,000 profit: a sole proprietorship is fine. SE tax is about $4,239 ($30,000 × 92.35% × 15.3%), and an S-Corp's payroll and accounting costs would likely eat any savings.
  • Year 3, $70,000 profit, a few large clients with contracts: a single-member LLC adds liability protection. Taxes don't change.
  • Year 5, $150,000 steady profit: consider an S-Corp election. With a $70,000 reasonable salary:
    • SE tax as an LLC: $150,000 × 92.35% × 15.3% ≈ $21,194
    • FICA on the S-Corp salary: $70,000 × 15.3% = $10,710
    • Payroll-tax difference: about $10,484, minus perhaps $3,000 in extra costs
    • About $7,500 saved before income-tax effects (a smaller QBI deduction gives some of it back)

Questions to ask yourself

  1. How much risk does my work carry? If a mistake could lead to a lawsuit, an LLC (and insurance) matters more than taxes.
  2. How much profit do I keep after expenses? Below roughly what a reasonable salary for your role would be, an S-Corp rarely helps.
  3. Will I have partners or investors? Partners suggest a multi-member LLC. Venture investors usually want a C-Corp.
  4. Where am I located? State fees and taxes can change the answer.
  5. Am I a U.S. person? Nonresident owners can't hold S-Corp stock.

Common mistakes

  1. Forming an LLC to “save taxes.” By itself, it doesn't.
  2. Electing S-Corp too early, at a profit level where the costs outweigh the savings.
  3. Paying a salary that's too low to an S-Corp owner, which the IRS can recharacterize.
  4. Mixing personal and business money, which can weaken the LLC's liability protection.
  5. Forgetting state costs, such as annual reports, franchise taxes and minimum taxes.
  6. Missing the Form 2553 deadline, which is generally 2 months and 15 days into the tax year the election should start.

Frequently asked questions

Not always. Many banks open accounts for sole proprietors with an EIN or SSN and a local business filing (such as a DBA).

Related tools

Sources

These tools give estimates, not tax or legal advice.

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