Q:Is it better for a company to organize as an LLC rather than an S Corp?

What are the differences between an LLC and an S Corp? In Pennsylvania, is it better for a doctor to organize as an LLC rather than an S-Corp?

The answer to this question depends on specific facts and circumstances. For example, entity selection will likely differ depending on whether the medical practice will include one owner/doctor or more than one owner/doctor. Since this is a medical practice, personal service corporation (PSC) rules may apply. If you elect to organize as a corporation, you will first be classified as a PSC because your business is engaged in personal services – which includes medical services/doctors practices – and those services are provided by employee-owners. PSCs are subject to special rules designed to eliminate tax benefits that occur when an individual’s income is earned within a corporation. You can minimize the impact of PSC rules through proper tax planning or electing S corporation status. One benefit that a PSC has over an LLC and S corporation is the ability for the PSC to provide nontaxable fringe benefits to its employee-owners.

Some general guidelines follow:

1. Ownership
LLC – Can have an unlimited number of owners, called members.

S Corp. – Limited to 100 owners (shareholders), who must be individuals.

2. Multiple Classes of Ownership
LLC – Can have multiple classes of membership ownership, each with different rights and profit allocations.

S Corp. – Restricted to having only one class of stock, although differences in voting rights are permitted.

3. Governance / Formality
LLC – Limited to a certificate of organization with state and an operating agreement outlining how LLC will be run, rights of members, etc.

S Corp. – Requires more formal governance agreements, including filing articles of incorporation with state, maintaining bylaws, holding board of directors and/or shareholder meetings, maintaining minutes for such meetings, etc.

4. Limited Liability Protection
LLC – Generally provide limited liability protection to members to extent of capital investment. However, for professionally licensed organizations such as a medical practice, a member will be personally liable for negligence or wrongful acts committed by him/her but not for such acts committed by other members (advise that you check with attorney).

S Corp. – Generally provide limited liability protection to members to extent of capital investment However, for professional corporations – owned by licensed professional such as doctors that provide medical services – an owner/doctor will be personally liable for negligence or wrongful acts committed by him/her but not for such acts committed by other owners/doctors (advise that you check with attorney).

5. Fringe Benefits
LLC – Significant limitations on receiving nontaxable fringe benefits, such as health insurance, life insurance, disability insurance, long-term care insurance, etc.

S Corp. – Significant limitations for more than 2 percent shareholders on receiving nontaxable fringe benefits, such as health insurance, life insurance, disability insurance, long-term care insurance, etc.

6. Self-Employment Tax
LLC – Members are generally subject to self-employment tax on their share of the LLC’s income.

S Corp. – Shareholders are not subject to self-employment tax on their share of the corporation’s earnings. However, for a medical practice comprised of owner/employee doctors, the amount of profits may be minimal since reasonable salaries must be paid to the doctors, and such salaries may absorb the practice’s profits.

7. Income Allocation
LLC – Composed of two or more members, they are taxed as partnerships and may allocate income differently among members.

S Corp. – Profits are allocated on a per share basis, with no opportunity for special income allocations.