LLC vs S-Corp vs Sole Proprietorship: How to Incorporate (2026)

Choosing a business structure feels like a huge, permanent decision. It isn't. It's an important decision, but you can change it later, and for most people the right answer is boringly obvious once you understand the tradeoffs.

Here's everything you actually need to know, minus the legalese.

The three structures at a glance¶

Structure	Liability protection	Taxed how	Paperwork	Best for
Sole Proprietorship	❌ None	Personal return	Almost none	Testing an idea
LLC	✅ Yes	Pass-through	Light	Most small businesses
S-Corp*	✅ Yes	Pass-through + payroll	Moderate	Profitable businesses

*An S-corp isn't a structure — it's a tax election you make on top of an LLC or corporation. More on that below.

Sole Proprietorship: the default nobody chooses on purpose¶

A sole proprietorship is what you automatically become the moment you start doing business without forming anything else. No filing, no fee, no ceremony.

The good: It's free and instant. Perfect for a weekend experiment or a tiny side hustle.

The bad: There is zero legal wall between you and the business. If the business gets sued or owes money, that's your house, your car, your savings. One bad lawsuit can wipe out your personal life.

Verdict: Great to start. Dangerous to stay. Upgrade the moment there's real money or real risk.

LLC: the sweet spot¶

A Limited Liability Company is the most popular structure in America, and for good reason. It gives you the "limited liability" wall — your personal assets are generally protected — without the heavy machinery of a corporation.

The good:

• Personal asset protection
• Cheap to form ($50–$500 depending on your state)
• "Pass-through" taxation by default: profits flow to your personal return, so there's no separate corporate tax
• Flexible and simple to run

The bad:

• You pay self-employment tax on all your profit (this is where the S-corp comes in)
• Some states charge annual fees

Verdict: For the overwhelming majority of freelancers, side hustlers, and small businesses, the LLC is the answer. Start here.

What "pass-through" actually means federally¶

This is the part that confuses everyone, and it's worth being precise about, because "LLC" is not a federal tax classification at all.

That's why the S-corp election isn't a competing structure — it's a change to this classification layer, made with a form, while the state-law LLC underneath stays exactly the same.

S-Corp: the tax hack for when you're winning¶

Once your LLC starts making real money, the S-corp election can save you serious cash. It lets you split your income into two buckets:

1. A reasonable salary (which pays payroll/self-employment tax)
2. Distributions (which don't)

Since you only pay self-employment tax on the salary portion, you can save thousands per year.

The catch: More paperwork, actual payroll, and higher accounting costs. The rough rule of thumb is that the S-corp starts making sense when your business nets around $60,000–$80,000+ per year. Below that, the admin overhead usually eats the savings.

Verdict: Not a starting point — a milestone. When your accountant says it's time, it's time.

How to actually incorporate (the steps)¶

Whichever you choose, forming an LLC looks like this:

1. Pick your state. Usually your home state. (Ignore "form in Delaware!" advice unless you're raising venture capital.)
2. Name your business and check it's available.
3. File Articles of Organization with your state — this is the actual "incorporation."
4. Get a free EIN from the IRS (never pay a third party for this — the IRS says outright that you never have to pay a fee for one).
5. Open a business bank account and keep personal and business money strictly separate.
6. File any required annual reports to stay in good standing.

The whole thing usually takes a day of effort and a modest fee. You can do it yourself or use a formation service.

The decision, simplified¶

• Just testing? Sole proprietorship. Move fast.
• Real business, real risk? LLC. This is you.
• LLC netting $60k+? Talk to an accountant about the S-corp election.

Don't overthink it. The most expensive structure is the one you never form because you were too busy researching structures. Get protected, get an EIN, get a bank account, and get back to the actual work.

Structure is one decision in a sequence, and it's rarely the one that decides whether the business works — the rest of the sequence is here, and how you fund the thing will shape your options more than which entity you picked.

It's just business — but at least make it your business, legally speaking.

Sources

1. IRS — Limited Liability Company (LLC)
   +How this was checked

   States that an LLC 'is a business structure allowed by state statute. Each state may use different regulations,' so it is a state-law entity rather than a federal tax classification. Gives the default federal classifications: 'an LLC with only one member is treated as an entity disregarded as separate from its owner, unless it files Form 8832 and elects to be treated as a corporation,' and 'a domestic LLC with at least two members is classified as a partnership for federal income tax purposes unless it files Form 8832 and affirmatively elects to be treated as a corporation.' Notes the exception that 'for purposes of employment tax and certain excise taxes, an LLC with only one member is still considered a separate entity.' Identifies Form 8832, Entity Classification Election, as the mechanism for changing federal classification. Confirmed by direct fetch. Formation costs and annual fees quoted elsewhere on this page are set by individual states and vary; check your own Secretary of State.