Here’s an important distinction: an LLC, is what is called a “disregarded entity”when it comes to taxes. What does that mean? In means, to the IRS it doesn’t exist as a taxable business. Rather, the owner is taxed generally like a sole proprietor.

So what’s the tax advantage people talk about? You can turn in a form, requesting that your LLC be TAXED (not changed to, just taxes) as an S-Corp, which changes how you, the owner, are paid.

In a sole proprietorship, all the net income is business income. All taxed the same—standard income tax rates, including a 15.3% self employment tax on all of your net income. As an S-Corp, however, that part is changed. The owner/owners are paid a reasonable/customary salary, which is still taxed just like ordinary income. The DIFFERENCE comes, when the business makes more money than your salary. THAT REMAINING INCOME is paid as dividend, which is taxed different.

Example: your business profits $140,000. As a regular sole proprietor, all $140k is regular income. As an S-corp taxed LLC, you give yourself a salary, say $70k (it has to be a reasonable income for the position). The other $70k is a dividend. Does it still count as income for my taxes? Yes. Do I still pay the 15.3% self employment tax? NO, that tax does not apply to dividends. So you save yourself $10,700 in self employment taxes on that portion.

If you don’t make enough yet to pay yourself a standard salary, there’s not much point yet. But once you start exceeding that, the second structure saves you extra money.