S-Corp or LLC? Disregarded Entity, Partnership, and C-Corp Tax Comparison (2026)

Picture a software engineer who left her W-2 job last spring to consult full-time. She forms a single-member LLC in Delaware, gets a default "disregarded entity" designation, and her first quarterly estimate runs about 33% of net profit. She wants to know whether to stay disregarded, file Form 2553 to become an S-Corp, add her spouse as a partner, or skip the passthrough world entirely and operate as a C-Corp. The owner above is theoretical, not an actual client.

Disregarded entity: the default for a single-member LLC

A single-member LLC is treated as a disregarded entity for federal tax purposes under Treasury Regulation 301.7701-3(b)(1)(ii), which means the IRS ignores the LLC and taxes the owner directly. Profit lands on Schedule C of Form 1040 if the activity is a trade or business, or Schedule E for rentals. Every dollar of net profit is exposed to the 15.3% self-employment tax under IRC §1401, applied to 92.35% of net earnings from self-employment per §1402(a)(12). For 2026, the 12.4% Social Security portion stops at the $184,500 wage base set by the Social Security Administration. The 2.9% Medicare portion runs uncapped, and an extra 0.9% Additional Medicare tax stacks on above $200,000 single or $250,000 joint.

The upside is simplicity. One return, no payroll, no separate EIN required unless you hire employees. The downside is the full self-employment tax bill on every dollar of profit until you cross the wage base.

Partnership: the default for a multi-member LLC

Add a second member, even a spouse, and the LLC defaults to a partnership for federal tax purposes. Partnerships file Form 1065 with K-1s issued to each partner, who then report their share on Schedule E. General partners pay self-employment tax on their distributive share of ordinary income under IRC §1402(a). Limited partners are usually outside SE tax, though the IRS has been litigating that hard for limited partners who actively work in the business, including the recent Soroban Capital Partners decision in the Tax Court.

For a husband-and-wife LLC where both spouses work in the business, the partnership election rarely beats keeping it simple. The qualified joint venture rules under IRC §761(f) let a married couple in a non-community-property state split a sole-prop LLC onto two Schedule Cs and skip the 1065 entirely, provided each spouse materially participates.

S-Corp: the election the calculator was built for

Any eligible LLC or corporation can elect S-Corp status by filing Form 2553 with the IRS, subject to the shareholder limits in IRC §1361: no more than 100 shareholders, only U.S. individuals or certain trusts, and a single class of stock. The S-Corp pays the owner a reasonable salary subject to FICA, then passes the remaining profit through as a distribution. The distribution avoids self-employment tax, FICA, and the 0.9% Additional Medicare tax.

Whether that election actually saves money depends almost entirely on the Social Security wage base and on whether the owner has other W-2 income. If you are below the $184,500 wage base and your business is profitable enough to support a real salary and a real distribution, the 15.3% you skip on distributions usually beats the cost of payroll, an 1120-S, and quarterly filings several times over. If you are already over the wage base from a day job, most of the savings have already evaporated, and the duplicated employer FICA can flip the election from a win to a loss. I covered that math in detail in a separate post on the wage base.

C-Corp: the structure most small operators do not need

A C-Corp files Form 1120 and pays a flat 21% federal income tax under IRC §11(b). When the corporation distributes earnings to shareholders, those dividends are taxed again at the qualified dividend rates of 0%, 15%, or 20% set by IRC §1(h)(11), plus the 3.8% net investment income tax under §1411 once modified AGI clears $200,000 single or $250,000 joint. Two layers of tax. On distributed earnings the combined effective rate often lands between 33% and 40%.

So why use one. The C-Corp wins when you plan to retain earnings inside the business to fund growth, when you want flexible fringe-benefit deductions, or when you are stacking up to the §1202 qualified small business stock exclusion that can wipe out federal tax on up to $10 million of gain at sale. For a consultant who plans to draw every dollar of profit, the C-Corp is almost always worse than the passthrough alternatives.

How the QBI deduction breaks the tie

The §199A qualified business income deduction lets passthrough owners deduct up to 20% of qualified business income, subject to a taxable-income threshold indexed annually under §199A(e)(2). C-Corp shareholders get nothing here. Specified service trades or businesses, defined in §199A(d)(2), include health, law, accounting, consulting, financial services, and any trade where the principal asset is the reputation or skill of one or more employees, and they lose the QBI deduction once taxable income exceeds the phaseout range. Below the threshold, every passthrough structure gets the same 20% haircut on qualifying income.

A subtle twist. Paying yourself a higher S-Corp salary raises the W-2 wage limit on QBI for owners above the threshold, but also reduces the qualified business income left on the K-1. The wage that minimizes payroll tax is not always the wage that maximizes QBI.

Same business, four entities

Same $200,000 of net profit, no other W-2 wages, single filer, 2026 figures, rounded. The cards below isolate the entity-specific tax layers: self-employment tax, payroll tax, corporate tax, and dividend tax. Personal income tax on owner wages is identical across structures, so I left it out to keep the comparison honest.

The disregarded entity and the partnership tie because an active partner is treated as self-employed on his distributive share. The S-Corp pulls ahead by removing the distribution from the SE tax base. The C-Corp loses every time the cash actually leaves the corporation, because the same dollar is taxed twice.

A practical decision rule

If you operate a profit-taking service business with one or two owners and you draw most of the money out each year, the choice usually narrows to disregarded entity or S-Corp, and the deciding factor is whether the wage-base math still works for you. If you employ a real team and retain earnings, the C-Corp deserves a serious look. If you have multiple unrelated investors or any foreign owners, the S-Corp eligibility rules in IRC §1361 often force you into partnership or C-Corp territory by default. The right answer is rarely the same answer your friend got.

Run your own numbers in the EntityIQ S-Corp tax calculator, which compares the disregarded entity and S-Corp paths using your W-2 wages, your QBI eligibility, and the 2026 wage base. If the calculator says yes, you can generate a pre-filled Form 2553 in the same session.

This article is educational and is not legal or tax advice. The owner above is theoretical, the dollar figures are 2026 estimates, and tax law changes. Please consult a qualified CPA before changing your entity structure.