Both S corporations and limited liability companies (LLC’s) are generally similarly treated in Illinois for liability and tax purposes, particularly if an S corporation election is in effect for the LLC. Internal organization statutes are different. What is similar is that there is liability limitation to investment in either type of entity, similar veil piercing doctrines, an identical state personal property replacement tax rate of 1.5%, and general federal passthrough income tax treatment (no entity level tax usually assessed, depends on net income, all reported to and payable by owners) for both a sub S and an LLC treated as an S corporation. Differences include:
State business organization fees/taxes on capital:
— Initial state organization/foreign state application for recognition to do business fee $150 plus at least $25 franchise tax, annual report $75 plus at least $25 franchise tax, that tax is 1/10 of 1% on paid-in capital (max. tax $2 million). Franchise tax calculation example, see: http://tax.illinois.gov/aboutidor/taxresearch/IllinoisCorporateFranchiseTax_HJCRFSG_03-21-2014.pdf
— Initial state organization/foreign state application for registration to do business fee $500, annual report fee $250, no franchise tax.
Federal Income Tax:
S corporation/LLC with S election:
–Both are identically treated under federal income tax rules. Makes payment of distributions for non personal services entities paid to owners as dividends easier to treat as other than employment revenue, so not subject to self-employment Social Security/Medicare tax of 3.5%.
Partnership, Not S Corporation LLC:
In evaluating whether to make the S election, if the Social Security/Medicaid tax is not the prime issue, passthrough treatment is in any case automatic for LLC’s unless another election is made. Note that partnership tax treatment for the LLC, instead of S corporation treatment, provides for no taxable income until cost basis of entity ownership (cash plus property contributed plus entity debt assumed) is exceeded, and partners can allocate tax responsibilities to each other by agreement.
President of the corporation has apparent authority to contract for the entity.
LLC taxed as S:
Apparent authority to contract for all managers in manager-managed entity, for all members in member-managed.
I chaired the subcommittee that wrote both versions of the LLC Act as passed to date. Changes based on the new Revised Uniform Limited Liability Companies Act may be introduced next year, after review by the Institute for Illinois Business Laws (IIBL) and other legal and business organizations. This should add further flexibility and clarity to LLC rules and standards for organization or registration of same in Illinois.
Application To Mergers, Acquisitions, and Recapitalization:
Due diligence on a merger usually involves verification of ownership by the seller, which requires examination of the “corporate book” for the entity (all official filings and all internal management minutes or resolutions or ownership issuance documents and agreements that changed and established ownership interests). The specific requirements for valid changes vary by entity. Tax payments warranties differ for pass-through and non pass through entities, as do the net tax exposures, so work with accountants to make sure all required tax payments have been made. The acquisition may also be a good opportunity to change the type of entity for future operations to one less exposed to income, sales, personal property, Social Security/Medicare, and other taxes or liabilities than the current organization. Some states, like Wyoming, lack entity income taxes. Some, like Oregon, have no sales taxes. Others, like Alaska and Delaware, have “asset protection” business trust options, with or without any local tax on income earned out of state. A good mergers and acquisitions lawyer can help with appropriate tax and liability exposure analysis and entity reorganization to meet the future domestic and foreign state entity needs of the merged business.