When to Switch from Sole Proprietorship or LLC to S Corporation | Evin Wick
- Evin Wick
- Jul 1
- 3 min read
Updated: Jul 2
As a solo professional, choosing the right business structure is crucial for optimizing your tax situation and setting yourself up for long-term success. While many freelancers and independent contractors start as sole proprietors or with pass-through LLCs, there comes a point when switching to an S Corp might make financial sense.
In this post, we'll explore the key considerations that should inform your decision about when to make this important switch.
Understanding the Basics: What is an S Corporation?
An S Corporation isn’t a completely separate legal entity, but rather a tax election you file via IRS Form 2553. By making this election, your LLC or corporation “passes through” its income, losses, deductions, and credits to you as a shareholder, avoiding corporate-level tax (see IRS Publication 589 (PDF) for details). The IRS requires S Corp shareholders who work in the business to pay themselves a “reasonable salary” subject to employment taxes, but any additional profit distributions aren’t subject to self-employment tax (see IRS Publication 15-B (PDF)).
Key Consideration #1: Income Threshold
The most significant factor in deciding whether an S Corp makes sense is your net business income. In practice, the tax advantages typically become meaningful when your business nets around $65,000–$70,000 before owner salary, as noted by Investopedia. Below that level, the costs of payroll processing, more complex accounting, and state-filing fees often outweigh the tax savings.
Here’s why that threshold matters:
Sole proprietorship: You pay self-employment tax (15.3%) on 100% of your business profits (per IRS rules on self-employment tax).
S Corporation: You pay employment taxes only on the salary you set for yourself; distributions above that salary escape the 15.3% tax.
For example, on $100,000 net profit with a $60,000 salary:
As a sole proprietor, you’d owe self-employment tax on the full $100,000.
As an S Corp, you’d owe employment taxes only on the $60,000 salary—and none on the $40,000 distribution.
Key Consideration #2: Professional Image and Credibility
Beyond tax savings, operating as an S Corporation can bolster your credibility:
No 1099-MISC for corporations: Many clients issue 1099s to individuals or LLCs, but not to corporations, making you look more established.
Enhanced standing with larger clients: The U.S. Small Business Administration notes that corporations often win bigger contracts due to perceived permanence.
Continuity and transferability: Corporate stock can be transferred more easily, signaling long-term viability.
For consultants, coaches, and other service professionals targeting larger contracts, these image benefits can be as valuable as the tax ones.
Key Consideration #3: Retirement Planning Advantages
S Corps unlock superior retirement-plan options compared to sole proprietorships:
Solo 401(k): As both employee and employer, you can contribute up to $66,000 in 2025 (see the IRS 401(k) Resource Guide for Plan Sponsors).
Defined Benefit Plans: Certain S Corps establish pension-style plans allowing even larger annual tax-deferred contributions (per IRS Defined Benefit Plans).
More take-home for savings: Lower FICA taxes on distributions free up cash to fund these plans.
These features can supercharge your long-term wealth-building strategy as your business grows.
Additional Factors to Consider for switching to an S corp
The Costs of S Corporation Maintenance
Before you switch, budget for:
Quarterly payroll filings and W-2 issuance
More detailed bookkeeping or accounting software
State-level S Corp election or franchise taxes (varies by state)
Separate business bank accounts and strict record-keeping
Professional support (accountant or payroll service)
These extra costs typically run $1,000–$3,000 per year, so you need enough net income to justify them.
Reasonable Compensation Requirements
The IRS requires S Corp owner-employees to take a “reasonable salary” for the work they perform. If you underpay yourself and over-distribute profits, the IRS may reclassify distributions as wages—subjecting you to back employment taxes plus penalties (see Chief Counsel Memorandum 200840013 for industry examples).
Is it Time for You to Make the Switch?
An S Corp election makes sense when:
Your business consistently nets over $70,000 annually
You plan to stay in business for the foreseeable future
You’re comfortable with added administrative tasks
Enhanced professional credibility will help you win clients
You want to maximize retirement-plan contributions
Align the decision with both your current cash flow and your long-term goals.
Next Steps
Set up a call with us, alternatively:
Consult a tax professional who specializes in small-business taxation.
If you’re still a sole proprietor, form an LLC or corporation first.
File IRS Form 2553 to make the S Corp election.
Set up payroll and accounting systems to track salary vs. distributions.
Establish a retirement plan (Solo 401(k), SEP IRA, or defined benefit plan) to capture all available tax benefits.
Evin Wick JD, LLM is a Georgetown-trained tax lawyer and co-founder of Scorpu, where he channels two decades of small-business tax expertise into streamlined S Corp, bookkeeping, and payroll solutions for solo consultants.
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