LLC vs S-Corp for Contractors: Where the 2026 Tax Savings Actually Come From

The choice between an LLC and an S-Corp comes down to one tax: the 15.3% self-employment tax. That tax is just Social Security and Medicare. A regular employee splits it with their employer, each paying half. When you work for yourself, you pay both halves — and a default LLC pays it on every dollar of profit.

An S-Corp changes that. An S-Corp isn't a different kind of company; it's a tax status you choose. Your business stays an LLC (or corporation) with your state — you just ask the IRS to tax it differently. Once you do, your income splits into two parts: a salary you pay yourself, and the rest, which comes out as distributions. Only the salary gets hit with the 15.3% tax. The distributions don't. That gap is where the savings come from.

Is it legal? Yes — and it's not a loophole. Congress looked right at it: in 2012, S. 2343 would have made professional-service S-Corp profits subject to payroll tax, and it failed a Senate vote 51-43. The split still stands today. The one condition is that your salary has to be reasonable — set it defensibly and you're using the law exactly as it's written. For how this fits your bigger picture, see our contractor tax planning hub.

What's the actual tax difference between an LLC and an S-Corp?

Both are pass-through entities. The difference isn't in income tax. It's in how the Social Security and Medicare tax gets applied.

As a default LLC, all of your net profit is subject to the 15.3% self-employment tax. There's no splitting, no strategy, no election. You earn $100,000 in net profit, the SE tax applies to the full amount. You can read more about the mechanics in our self-employment tax guide for contractors.

As an S-Corp, that same $100,000 gets split. You pay yourself a W-2 wage, and the rest comes out as distributions. The wage carries FICA. The distributions carry nothing. Zero payroll tax.

That gap is the entire reason contractors elect S-Corp status.

How does self-employment tax work when you stay an LLC?

If your LLC is a single-member entity and you haven't elected S-Corp status, the IRS treats you as a sole proprietor. You report income and expenses on Schedule C. The net profit flows to your personal return and gets hit with the 15.3% SE tax.

The Social Security portion is 12.4%. For 2026, it applies up to the wage base of $184,500. The Medicare portion is 2.9%. It has no cap. Every dollar of net profit pays one or both.

You do get a deduction for half of your SE tax against your income. That softens the income-tax side slightly. But the SE tax itself still hits the full profit number.

Consider a contractor with $120,000 in net profit. The SE tax on that profit runs roughly $16,955. That's money out of your pocket before income tax even starts. A sole proprietor or default LLC has no way around it.

How does the S-Corp split save you money?

The S-Corp election splits your income into two streams: wages and distributions. Only the wages carry payroll tax. The distributions are free of FICA.

Take that same $120,000 of net profit. Under S-Corp treatment, you pay yourself $40,000 in W-2 wages. That's roughly one-third of net profit, which is where we set the salary bar. The remaining $80,000 comes out as distributions. On the $40,000 wage, the company pays 15.3% in FICA. That works out to $6,120, split between your half and the company's half. On the $80,000 in distributions, the payroll tax is $0. Nothing comes out for Social Security or Medicare on that portion.

Compare that to the LLC side. The same $120,000 in net profit carries roughly $16,955 in self-employment tax. The gross savings from the S-Corp split is about $10,835. Now subtract the S-Corp's extra costs. Payroll processing, a separate 1120-S tax return, and state franchise tax typically run $2,000 to $3,000 per year. After those costs, the net savings is roughly $7,800 to $8,800.

And it scales — the higher your profit, the larger the distribution portion, and the bigger the gap grows. For more on how to structure the split, see our guide on how to pay yourself as a contractor.

When does the S-Corp election start making sense?

Our threshold: when net profit clears $80,000 to $100,000 and looks repeatable, it's time to run the S-Corp math. Below that, the fixed costs of running an S-Corp — payroll, a separate tax return, state fees — eat most of the savings. Above it, the savings grow faster than the costs.

Consider a contractor at $60,000 in net profit. The SE tax on that runs roughly $8,477. Switch to an S-Corp and pay yourself $20,000 in wages. The FICA on those wages is $3,060. The gross savings is about $5,417. After $2,000 to $3,000 in added compliance costs, you're netting $2,400 to $3,400. That's marginal, especially if your profit fluctuates year to year.

Now consider $100,000 in net profit. The SE tax as an LLC runs roughly $14,129. With an S-Corp paying roughly $33,000 in wages, the FICA is about $5,049. The gross savings is approximately $9,080. After costs, you're keeping $6,000 to $7,000. That's where the election clearly pays for itself.

At $150,000 and above, the savings dwarf the fixed costs. The election is almost always worth it if the profit is consistent. For a deeper look at the trigger point, see when you should become an S-Corp.

If your income swings wildly — a great year followed by a slow one — wait until the profit is repeatable. The S-Corp costs are fixed; the savings only show up in profitable years.

What salary should you pay yourself as an S-Corp owner?

In our experience representing contractors in audits, a salary of roughly one-third of net profit is the level that consistently holds up. You take the rest as distributions. This isn't a number we invented — it's what the law and the case law support when the salary is genuinely reasonable for the role and the industry.

The IRS doesn't publish a formula. The requirement is that your wage matches what you'd pay a stranger to do your job. For an HVAC tech-owner running jobs and managing a small crew, market wages in your area are the benchmark. Salary surveys, industry data, and the actual scope of your work are what make the number defensible.

The case that cemented this was Watson v. United States (8th Cir. 2012). A CPA paid himself $24,000 in wages while taking over $175,000 in distributions. The court used market salary-survey data to reset his wage to $91,044 and collected payroll tax on the difference. The lesson isn't that distributions are dangerous — it's that the salary has to be defensible. A low salary with no market backing is what draws scrutiny. A salary tied to what the market actually pays for your role holds up.

For a trade contractor, that means looking at what a lead tech or project manager in your trade earns in your region. If that number is $45,000 to $55,000 and your net profit is $150,000, paying yourself $50,000 in wages and taking $100,000 in distributions is defensible. The salary reflects the labor you perform. The distributions reflect the return on the business you own.

Can you still fix a late S-Corp election?

Yes. If you missed the deadline to file Form 2553, Rev. Proc. 2013-30 lets you fix a late S election up to 3 years and 75 days after the intended effective date. You write "FILED PURSUANT TO REV. PROC. 2013-30" on the form. There's no fee.

This matters because some contractors realize mid-year that they should have elected S-Corp status on January 1. The late-election relief gives you a path back. You file Form 2553 with the relief language, and if the IRS accepts it, your S-Corp status is retroactive to the intended date.

The relief isn't automatic for every situation — you need reasonable cause for the late filing and to have acted consistently with S-Corp status (filing as though you were one). But for a contractor who simply didn't know the deadline existed, it's a straightforward fix.

Does the QBI deduction change the LLC vs S-Corp math?

The QBI deduction, which shields up to 20% of your business profit from income tax, applies to both LLCs and S-Corps. The 2025 tax law (the One Big Beautiful Bill Act) made the 20% deduction permanent, and the rules above remain in effect for 2026.

For most trade contractors, QBI doesn't change the LLC vs S-Corp decision. Here's why: the QBI thresholds for 2026 start at $201,750 for single filers. For married filing jointly, the threshold is $403,500. Below those thresholds, both entities get the full 20% deduction with no wage or income limitations. The SE tax savings from the S-Corp split is the bigger factor by far.

Above the thresholds, the calculation gets more complex. The S-Corp's wages actually help — they're one of the factors that can increase the QBI deduction when the wage limitation kicks in. But for the vast majority of trade contractors, QBI is a benefit you get either way. Don't let it drive the entity decision.

How much should you set aside for taxes either way?

Our standing advice to trade contractors: sweep 25 to 30 cents of every net dollar into a separate tax account the day you take the draw. Use 25% if you're in a no-income-tax state. Use 30% in California. Use 35% or more in an unusually profitable year.

Always apply it to net, never gross. If you gross $200,000 on jobs but net $100,000 after materials, subs, and overhead, you set aside 25 to 30 cents of that $100,000 — not of the $200,000. For the full breakdown, see our guide on how much to set aside for taxes.

As an S-Corp, your withholding from your W-2 wages covers part of this automatically. But the distributions have no withholding. You'll need to make estimated taxes on the distribution income. Our quarterly tax guide for contractors walks through the timing and the safe harbor.

What should you do next?

If your net profit is consistently above $80,000 to $100,000, the math favors an S-Corp election. The SE tax savings on the distribution portion outweigh the added compliance costs, and the strategy is durable — Congress debated it directly in 2012 and left it standing. The one condition is a defensible salary tied to market data for your trade.

If you're below that threshold, or your income swings year to year, the default LLC is simpler and cheaper. You can always elect S-Corp status later when the profit stabilizes — and if you miss the January 1 deadline, Rev. Proc. 2013-30 gives you a path back.

Either way, sweep 25 to 30 cents of every net dollar into a separate tax account. Whether it's SE tax as an LLC or estimated taxes on distributions as an S-Corp, the bill comes four times a year. For help running the numbers on your specific situation, book a meeting with our office.