Unless an LLC makes a tax election, the IRS will apply its standard treatment. The standard treatment for an LLC depends on how many members (owners) it has.

The IRS refers to a single-member LLC as a disregarded entity, meaning the IRS disregards the entity entirely. In other words, the LLC does not file a federal income tax return. Instead, the LLC's profits pass through to the member's tax return. If the sole member is an individual, the member reports the LLC's profits on his or her personal return just as a sole proprietor would, and pays both income tax and, if the profits come from an active business, self-employment tax. For this reason, we often say a single-member LLC is taxed like a sole proprietorship.

A multi-member LLC is treated as a partnership. This means the LLC reports profits or losses to the IRS via a partnership return (Form 1065). The profits still pass through, and each member pays income tax on their share of the profits on their own personal return, plus self-employment tax when those profits come from an active business. Either way, the LLC itself pays no federal income tax, and it keeps safeguarding your personal assets the whole time.

Add it up, and under standard treatment, your LLC's profits face two federal taxes: income tax and self-employment tax. The self-employment piece runs 15.3% (12.4% Social Security plus 2.9% Medicare) on nearly all of your profit. An LLC that nets $150,000 pays about $21,194 in self-employment tax before paying a dime of income tax. That is the number the S-Corp election attacks.

• A reasonable salary, which is subject to the same 15.3% employment taxes.
• The remaining profit, often called distributions, which passes through to you free of employment tax, whether you pull it out of the business or leave it in.

Everything that comes out as a distribution instead of salary skips the 15.3%. Say your LLC nets $150,000 and pays you a reasonable salary of $80,000. The other $70,000 comes to you as distributions, and about $8,954 of self-employment tax simply never gets paid. The one rule that holds it all together is the word "reasonable": your salary has to reflect what you would pay someone else to do your job. You cannot pay yourself $10,000 and take $140,000 in distributions. Set the salary honestly, write down how you got there, and the strategy holds up.

This is the part the savings pitches skip. The election puts real obligations on your calendar, and they start the day it takes effect:

• Payroll, even for a team of one. You must run a real paycheck for yourself through a payroll service, with withholding, on a set schedule.
• More filings. Quarterly payroll returns to the IRS, state unemployment filings with the Texas Workforce Commission, and a W-2 every January.
• A second tax return. Your LLC now files its own S-Corp return (Form 1120-S) each year, due March 15, a month ahead of your personal return.
• The reasonable salary duty. Underpaying yourself is the most audited feature of S-Corps. Losing that argument means back payroll taxes plus penalties.

Budget around $1,500 - $3,000 a year for the payroll service and the extra tax preparation.

Skip the election, at least for now, if any of these fit you:

Your LLC holds rental real estate. Rental income is generally not subject to self-employment tax in the first place, so there is nothing for the election to save. Worse, the S-Corp rules create real traps for property owners: pulling an appreciated property out of an S-Corp is a taxable event. If your LLC exists to hold rentals, the standard classification is almost always the better option. Flippers and wholesalers are a different story, because that income is active and fully exposed to self-employment tax.

Your profit is under roughly $50,000 or bounces around. The savings scale with profit. A lean year can leave you paying for payroll software to save nothing. You can always elect later, once profits are steady.

You plan to bring in investors or split profits unevenly. An S-Corp allows only one class of ownership interest, and profits must be split strictly by ownership percentage. If your operating agreement promises flexibility, the election can quietly break it.

If you are both an owner and an employee of an LLC taxed like an S-Corp, you can cut your self-employment taxes by thousands a year. The election earns its keep for a Texas LLC with steady active profits above roughly $80,000. For a rental property LLC or a business still finding its footing, the burdens outweigh the benefit. Run your own numbers through the table above, then confirm them with your CPA, because your reasonable salary and your specific mix of income can move the answer.

And if you have not formed the LLC yet, start there. The entity comes first, the tax election second. We help real estate investors and business owners across Texas set up LLCs, PLLCs, and Series LLCs built to safeguard what they are working for, with the tax flexibility to make this election whenever the numbers say go. If that is where you are, we are glad to help you get the foundation right.