SR Client Question: Can an LLC Own Shares of an S Corporation?

An S corporation has strict limitations on who can own stock that are imposed upon it by the Internal Revenue Code (IRC) Section 1361(c), which provides that an S corporation can only have shareholders that are individuals or certain trusts and estates for the benefit of individuals.  Corporations, partnerships, LLCs or other business entity types cannot be shareholders in an S corporation.

An S corporation elects to be treated as a small corporation under Subchapter S of the IRC. This election grants special tax status to the corporation, allowing shareholders to pass profits and losses through to their personal income tax return instead of paying taxes on the corporate return and incurring double taxation. In exchange for this benefit, the IRC places certain restrictions on the ownership, structure and transferability of the corporation’s stock.

A limited liability company (LLC) is a business entity that combines some of the legal liability limitation benefits of a corporation with the tax advantages of a partnership. Although an LLC can be a business comprising one owner, it is still considered a business entity that is separate and apart from its owner. An LLC enjoys the limited liability of a corporation but is taxed in the same way that an S corporation is taxed: by passing profits and losses through to its owners.

The requirement that S corporation shareholders be individuals is tied to the special tax treatment that is the core of the election. The election enables the corporation to skip paying tax at corporate tax rates, then again on any dividend distributions, and instead, pass the income and losses to the corporation’s shareholders in proportion to their ownership interest. The shareholders file personal tax returns and pay taxes on their corporate portion at their individual rate.

For more information about entity formation and complex entity structuring, or other tax questions, please contact us.