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S-Corps vs LLCs: A Lender's Perspective on the Differences

S Corporations

A corporation that decides to be taxed under Sub-chapter S of the Internal Revenue Code is an S-Corporation. The Corporation files an 1120S instead of an 1120.

The big difference between a ‘regular’ corporation and an S Corporation is that the latter is a pass-through entity. Income, deductions, credits all pass through to the shareholder’s return, where it is taxed.

Limited Liability Companies (LLCs)

If an LLC has only one owner, it files as if it was not a separate entity at all. If it is a business it will file on Schedule C or F (Farm) in the owner’s 1040. If it is a rental, it will be reported on the 1040 Schedule E, just as if the owner of the LLC owned the rental personally.

If there are two or more owners (called members), an LLC actually chooses how it will file. The return-of-choice in my experience is the Form 1065, the same form filed by partnerships.

Similarities:

Both are pass-through entities. Generally, the owners pay taxes on the income or get the tax shelter of the losses. (You’ll see CPAs use the word ‘generally’ when there are some exceptions. Those exceptions are definitely beyond the scope of this blog post!)

Both provide limited liability. Generally, the owners are not personally liable for business obligations. (Yes, you caught that word generally, right?)

Differences:

Generally, the S Corporation shareholder can take some ‘pay’ as wages and some as distributions. The federal taxes are not impacted but there are no payroll taxes on shareholder distributions. The IRS will challenge it if the shareholder takes all their ‘pay’ as distributions just to avoid payroll taxes.

There is more flexibility with an LLC in terms of profit-, loss- and owership-percentage. But the LLC owner, if involved in the business more than just an investor, must pay ‘payroll taxes’ on all the profits.

Too much information?

If that last section was more than you wanted to know, know this. From your perspective as a lender, there is not a lot of difference.

  • They both have limited liability in most cases, except when they have guaranteed loans.
  • They both have a k-1 to tell you what they actually took home from the business. (With the S Corporation, the k-1 distributions are in addition to wages.)
  • In both cases, if the owner owns a high percentage and you are lending to the business, you’ll likely want to include the owner/guarantor in your analysis.
  • In both cases, if the owner owns a high percentage and you are lending to that owner, you’ll likely want to include the business in your analysis.

Need more help?

The series at www.LendersOnlineTraining.com on Tax Return Analysis: Business Tax Returns includes 9 eCourses: 3 each on 1120, 1120S and 1065. And the eCourse on Types of Entities can be purchased a la carte or is part of the Financial Statement Analysis set of 9 eCourses.

Check them out.

About the Author
Linda Keith CPA is an expert in credit risk readiness and credit analysis. She trains banks and credit unions throughout the United States, both in-house and in open-enrollment sessions, on Tax Return and Financial Statement Analysis. She is in the trenches with lenders, analysts and underwriters helping them say "yes" to good loans. Creator of the Tax Return Analysis Virtual Classroom at www.LendersOnlineTraining.com, she speaks at banking associations on risk management, lending and director finance topics.