LLC vs S-Corp. What are the differences?

Question

I've been a landlord for about 5 years now and use the proceeds as income like most do in the beginning of their REI careers.  The question is, whether to initiate a S-Corp or LLC for my passive income.  My CPA recommends an S-Corp.  Her reasoning is that a "S-Corp is where you want to be in the future, so start there".  But, I hear and see so many who deal with Passive Income using just the LLC.  What are the drawbacks from becoming a S-Corp.  What are the benefits?  Anyone else have this dilemma?

Steven Hamilton II · Answer

Gerald, Great question; however, what you want to think about is why you would want to do that? Unless there is a goal of contributing more to retirement accounts, or making sure one of you has enough credits into Social Security it is generally a bad idea to take passive income and make it active subject to SE Tax.  It would be taxed as the same rates however, you would also have to pay a salary which is subject to payroll taxes. Your passive rentals are not subject to SE tax as it stands.

Jerry W. · Answer

@Gerald Marshall you are getting some advice I wish I had gotten when I bought into a an S Corp back in about 1990.  Keep in mind LLCs had only just gotten pass through taxing from the IRS in about 1977 so they were new and had a lot more required bullet points than they do now.  They used to be limited to 30 years of business back then.  Because they are in a Corporation getting them out creates a taxable event entirely different than an LLC has.  With over 20 years of depreciation on some of the properties it creates special challenges.

Steven Hamilton II · Answer

What @Daniel Hyman did not touch on is the most important part is that you do not want to hold rentals inside of any type of corporation.  If your accountant is suggesting an s-corp to hold rentals and passive activities they could very well be committing malpractice.

You run into major basis issues inside of a corporation that you don't have holding through a single member LLC that is not taxed as a corp. If you are holding the properties with a a spouse consider using an LLC Taxed as a partnership. Feel free to PM me if you'd like some qualified advice.

Michael Evans · Answer

You can have an LLC that elects to be taxed at the federal level as an S corp. The main thing to remember is that if you elect to be taxed as an S corp in order to avoid paying self employment taxes, the IRA requires you to take a reasonable salary, of which you will have to pay self employment taxes. The amount above and beyond the reasonable salary can be distributed as dividends (passive income) not subject to self employment taxes.

By having an LLC that is taxed as an S corp, you can have the best of both worlds.

Stay Blessed!

Steve Vaughan · Answer

I have a mgt s-corp that 'oversees' my portfolio and it works well.  Have had it since '03.  Never have received a rent payable to me personally.

For me the big driver about whether to place or buy property inside LLCs or not is asset type.  I have my commercial 5+ unit apt buildings inside LLCs but not little houses.  They don't mix well with financing and insurance for me.   Make sure your title insurance and property/hazard insurance won't nullify ya in the name of asset protection lol if you transfer.

Gerald Marshall · Answer

Thanks Guys.  @Daniel Hyman, @Steven Hamilton II, @Jerry W.  Would it be possible to run the management side of the business through the S-Corp and just hold the properties in an LLC.  Would this limit exposure to taxation.  I do not plan on taking a salary, but was planning on my wife taking a small salary at a lower tax rate which is provided with an S-Corp.

Daniel Hyman · Answer

@Gerald Marshall

The immediate drawbacks to an S-corp are additional admin and costs. You'll need to have the entity set up, an extra tax return (1120S), and will have to take a salary and deal with payroll tax filings. Now, those costs could potentially be offset (and more) by the savings from self employment taxes, but that will depend on your overall tax situation.

Gerald Marshall · Answer

How do you set up an LLC that "elects" to be taxed as a S-Corp?

Steven Hamilton II · Answer

I would love to hear her explanation.

Gerald Marshall · Answer

A lot of good advise, thanks guys.  I'm thinking I need my Accountant to explain why she believes it's best for me.

LLC vs S-Corp. What are the differences?

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