If you are deciding whether to form a professional corporation (PC) or a limited liability company (LLC), there are several elements you should consider, as both have advantages and limitations. An LLC is a business structure that allows entrepreneurs to separate their personal assets from the business. A PC business entity is reserved for specialized professions and offers even more liability protection than an LLC.
You’ll likely want to choose a business structure that offers tax benefits while protecting you and your assets if something unexpected happens. Understanding your options will help you make the best, most informed decision about your business structure.
PC vs. LLC: What’s the difference?
LLCs and PCs are both business entities that provide owners with liability protection for their personal assets. Compare these business structures to a sole proprietorship where the owner may be personally responsible for personal injury, property damage, or other business loss. However, there are some key differences between PCs and LLCs you should know:
- Who can form them: Generally, most businesses can be formed as an LLC. There are exceptions for non-profits, banks, and insurance companies. Still, you can structure most family-owned businesses, start-ups, or online/e-commerce businesses as an LLC.
However, if you are in a licensed profession such as medicine, accounting, architecture, social work, or engineering, your state may require you to structure the business as a PC. These fields tend to involve significant expertise and responsibility, with strict ethical and regulatory requirements. A PC’s structure helps protect business owners from liabilities related to other owners’ malpractice or negligence while maintaining accountability and standards that protect the public.
- How they are taxed: The other significant difference between LLCs and PCs is how they’re taxed. LLCs are considered pass-through entities, which the IRS taxes as an S-corp. This means you’ll report the profit and losses for the business using Schedule K-1, which breaks down the profit and losses for each LLC member. The tax liability for the business income is determined based on the Schedule C filed on each owner’s personal tax return. In an S-corp, each LLC member is responsible for their own tax.
LLCs with a single owner are automatically treated as a sole proprietorship. However, if your LLC has multiple owners, it’s classified as a partnership. Partnership LLCs have the flexibility to choose their tax treatment – you can either retain your status as an S-corporation, or elect to pay taxes as a C-corporation.
If your business is a PC, you must file as a C-corp. Professional corporations filing as a C-corp will report and pay taxes as a business at a 21% flat rate. Owners will also pay tax on the dividends they receive on their individual income tax returns.
Professional corporations and taxes
The IRS treats all personal corporations as qualified personal service corporations. This means PCs pay the maximum 21% corporate tax on all business income.
A PC’s shareholders are responsible for reporting and paying individual income taxes. The PC itself is taxed independently of the shareholders. On one hand, this does limit a shareholder’s personal liability for corporate taxes. But for single owners, it means the IRS taxes the business’s earnings and the dividends from those earnings.
Professional corporations can choose whether to use the cash or accrual accounting method. The cash method means a business reports income for the tax year when it receives cash payment for services. For example, if you performed a service in 2023, but payment was received in 2024, you’ll wait until you file 2024 taxes to report the income.
The pros of forming a PC
- Liability protection: As an owner, you are not personally liable for malpractice actions brought against other owners.
- Ease of ownership transfer: You can easily transfer ownership through the buying and selling of ownership interests or stocks.
- Self-employment tax: Owners are not personally responsible for paying self-employment taxes.
The cons of forming a PC
- Personal liability: Individual partners can still be held personally responsible for their own malpractice.
- Corporate tax rates: PCs are subject to corporate tax rates, which can be higher than individual tax rates or pass-through entity tax rates.
- Double taxation: As an owner, you could be subject to double taxation – once on the business’s earnings and again on the dividends from those earnings.
LLCs and taxes
The limited liability company business structure is considered simpler and more flexible than other business structures. There is no limit to the number of members an LLC can have, and they are not required to hold annual meetings or record minutes the way other corporations are.
The pros of forming an LLC
- Ease of set up: Creating an LLC is generally considered simple and straightforward to set up compared to other business entities.
- Limited liability protection: Members’ personal assets are separate from their business assets. If the LLC is involved in a lawsuit, your liability is limited to the amount you’ve personally invested in the business.
- Tax flexibility: An LLC has flexibility to choose its tax treatment. It can be taxed as a sole proprietorship if it has one member, as a partnership if it has more than one member, or as a corporation.
- Inclusivity: You don’t have to be a U.S. citizen or permanent resident to form an LLC.
The cons of forming an LLC
- State requirements: In some states, an LLC is required to have at least two members.
- State taxes and fees: LLC members may be required to pay state taxes, franchise tax, or a yearly registration fee, depending on the state in which the LLC is established.
- Renewal requirements: LLCs can expire in certain states and may have to be re-established.
Other types of business entities to consider
- Sole Proprietorship: A sole proprietorship is a business owned and operated by a single individual, with the owner taking personal responsibility for all debts and obligations. For tax purposes, the owner reports income and expenses from the business on their individual tax return using Schedule C. This simple structure makes it easy to manage but is potentially riskier for personal assets.
- General Partnership: A general partnership involves two or more individuals who share the ownership and operation of a business. Each partner contributes to the business and shares in profits and losses. For tax treatment, the partnership itself does not pay taxes. Instead, the business files as an S-corp and passes through profits and losses to the partners, who report them on their personal tax returns.
- Non-Profit Organizations: Non-profit organizations are established for charitable, educational, religious, or other activities for social or public benefit. These entities are eligible for tax-exempt status, meaning they do not pay federal income taxes on charitable donations and other income related to their exempt status.
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