A common myth: forming an LLC automatically changes your federal taxes. By default it does not — a single-member LLC is taxed exactly like a sole proprietorship. The real tax lever is the S-corp election, not the LLC itself. Here is the accurate comparison for 2026.
Direct answer
A sole proprietorship and a default single-member LLC are taxed identically for federal income tax: pass-through to your personal return via Schedule C, self-employment (SE) tax on net earnings, and the 20% QBI deduction if it applies. An LLC adds liability protection (a legal, not tax, benefit). Only by electing S-corp status does the federal tax treatment change — splitting income into salary + distributions to reduce SE tax above a reasonable salary.
Federal tax treatment compared
| Factor | Sole proprietorship | Single-member LLC (default) | LLC electing S-corp |
|---|---|---|---|
| How income is reported | Schedule C on personal 1040 | Schedule C on personal 1040 (disregarded) | W-2 salary + K-1 distributions |
| Self-employment tax | 15.3% on net earnings | 15.3% on net earnings | Only on the W-2 salary |
| QBI deduction (if applicable) | Up to 20% | Up to 20% | On pass-through portion |
| Liability protection | None (personal assets at risk) | Yes (separate legal entity) | Yes |
| Payroll required? | No | No | Yes (reasonable salary) |
The S-corp election: where the tax savings come from
With a default LLC, all net profit is hit with SE tax. Elect S-corp status and you pay yourself a reasonable W-2 salary (payroll taxes apply only to that salary); profit above the salary can be taken as distributions, which are not subject to SE tax. The trade-off: you must run payroll, the salary must be "reasonable" for your role (the IRS scrutinizes this), and admin costs rise. The savings only beat those costs once profit is high enough — commonly discussed in the ~$40,000–$60,000 net-profit range, but it is fact-specific.
State-level differences to watch
- Several states charge LLC annual fees or franchise taxes that a sole proprietorship never pays (e.g., California's $800/year minimum). Use our LLC Cost by State matrix for the specifics.
- Some states recognize the federal S-corp election automatically; others require a separate state election.
- State income tax follows federal pass-through treatment in most states, but conformity rules vary.
Frequently Asked Questions
Are a sole proprietorship and a single-member LLC taxed the same by the IRS?
For federal income tax, yes by default. A single-member LLC is "disregarded" — it flows to your personal return via Schedule C, pays self-employment (SE) tax on net earnings, and can claim the QBI deduction just like a sole proprietorship. The LLC difference is legal (liability protection), not federal tax, unless you elect corporate treatment.
What is self-employment tax and how much is it?
SE tax covers Social Security and Medicare for the self-employed: 12.4% Social Security (on net earnings up to the annual wage base — $176,100 in 2025; the 2026 figure is published by SSA each fall) plus 2.9% Medicare, and an extra 0.9% Medicare above $200,000 (single) / $250,000 (married filing jointly). Both sole props and default LLCs pay this on net earnings.
When does electing S-corp status save tax?
An S-corp election lets you take a reasonable W-2 salary (payroll taxes on the salary only) and take remaining profit as distributions (not subject to SE tax). The savings appear once net profit is high enough that the SE tax avoided on distributions exceeds the cost of payroll and reasonable-comp scrutiny. Many small owners see the crossover around roughly $40,000–$60,000 of net profit, but it depends on your situation.
Do states tax an LLC differently than a sole proprietorship?
Often yes. Several states impose LLC annual fees or franchise taxes (California is $800/year, for example) that a sole proprietorship does not pay. Some states also treat S-corp elections differently. Check your state fee schedule before forming — see our LLC Cost by State page for the matrix.
Related Cashbizly Tools
Compare worker classification in 1099 vs W2, model SE tax in the Self-Employment Tax Calculator, and see state fees in LLC Cost by State.