Optimizing Your Entity Structure for Greater Tax Savings

By D. Christopher Winans, EA

If your business is profitable but your tax bill feels out of proportion, your entity structure may be the problem. Many owners choose an LLC or corporation when they start and never revisit it, leading to years of unnecessary overpayment. With the 2026 tax changes under the One Big Beautiful Bill Act (OBBBA), failing to revisit that decision can now cost tens of thousands of dollars annually, depending on whether you operate as an LLC, S Corp, or C Corp.

In 2026, the 20% Qualified Business Income (QBI) deduction has been made permanent, and 100% bonus depreciation is back, creating meaningful tax-saving opportunities for small business owners. However, the optimal entity type still depends on factors such as profit levels, industry, and whether the business plans to seek outside investment—making proactive entity optimization more important than ever.

At Fidelis Tax & Accounting, we partner with our business owner clients to review their business structure each year to determine whether a change in entity makes sense, given changes in tax law or their business operations. Let’s examine a simplified method of this type of review and analysis, as well as basic criteria to consider:

S Corp vs. LLC vs. C Corp: What’s Best in 2026?

While determining the proper structure varies and is somewhat unique to each business, here is a general guideline to get you started.

LLC (Limited Liability Company)

• Best for: Startups, solo freelancers, and low-profit businesses

• 2026 status: The default, simplest structure, an LLC provides liability protection with pass-through taxation, meaning income is reported on your personal return.

• Tax impact: By default, single-member LLCs are taxed as sole proprietorships, subjecting all net earnings to 15.3% self-employment tax.

S Corp (Subchapter S Corporation Election)

• Best for: Profitable, established businesses ($80,000+ in annual profit) seeking to reduce self-employment taxes

• 2026 status: This is a tax classification (not a distinct entity) that can be applied to an LLC or C Corp.

• Tax impact: Owners must pay themselves a “reasonable salary” (subject to FICA payroll tax), but remaining profits can be taken as distributions, which are free from self-employment taxes.

C Corp (C Corporation)

• Best for: High-growth start-ups looking for venture capital, businesses intending to go public, or those with large retained earnings needing a flat tax rate

• 2026 status: Due to the 21% federal corporate rate, C Corps remain attractive if profits are reinvested, especially with the return of 100% bonus depreciation for capital investments.

• Tax impact: Double taxation is still the primary drawback (taxed at the corporate level, then again on dividends).

How Entity Choice Affects Payroll, Distributions, and Audit Risk

The choice between these entities isn’t just about the tax rate; it’s about how you pay yourself. Since most small business structures (other than pure sole proprietorships) are LLCs or S Corp structures, let’s compare the two:

Payroll and “Reasonable Salary”

• LLCs are generally not on payroll.

• S Corps require formal payroll for owner-employees, which brings higher administrative costs (perhaps $1,000–$3,000 annually) for W-2 processing. The IRS is increasingly auditing S Corp owners to ensure their salary isn’t artificially low to avoid taxes, particularly in 2026 as they look for misclassified income.

Distributions

• LLCs take “draws” rather than dividends.

• S Corps distribute profits based on ownership percentages. Taking distributions without first paying a “reasonable salary” can invite IRS scrutiny and audits, as well as severe tax penalties.

Audit Risk in 2026

With the OBBBA tax legislation, 2026 tax returns are expected to see a 10-15% increase in complexity.

• S Corps: Elevated risk due to “reasonable salary” scrutiny

• LLCs: High risk if income is inconsistent or if they have not updated their structure as profits grew

• General rule: Inconsistent income reporting across multiple streams is the top audit trigger for 2026.

Real Examples of Restructured Businesses and Tax Outcomes (2026)

Scenario A: The Growing Freelancer (LLC to S Corp)

• The Business: Sarah, a graphic designer, moved from earning $50,000 to $120,000 in net profit.

• Old Structure (LLC): She paid 15.3% self-employment tax on the entire $120,000, roughly $18,360 in employment taxes alone.

• New Structure (S Corp): She set a “reasonable salary” of $60,000; she paid payroll taxes on $60,000, and took the other $60,000 as a distribution (no self-employment tax).

• Result: Sarah saved over $8,000 in federal tax, easily covering her new payroll service costs.

Scenario B: The Tech Startup (LLC to C Corp)

• The Business: A software development company required venture capital and was acquiring expensive server equipment.

• Old Structure (LLC): Difficulty attracting investors; QBI deduction was limited due to high-income thresholds.

• New Structure (C Corp): Converted to a C Corp to issue stock, and utilized 100% bonus depreciation (under 2026 OBBBA rules) to wipe out taxable income on $100,000 of new hardware.

• Result: The company secured funding and significantly reduced its tax liability through immediate expense depreciation.

Are You Overpaying?

If your LLC is consistently netting over $80,000 a year, you are likely overpaying on self-employment taxes in 2026. However, if your profits are lower, the compliance costs of an S Corp may exceed the savings.

The best strategy for 2026 is to perform a “reasonable compensation” analysis and run a scenario analysis comparing LLC vs. S Corp status. Entity optimization is a yearly, not a one-time, decision.

How Are You Prepared to Save in 2026?

If there’s one tenet in the tax and financial world we’ve seen work time and time again, it’s that strategic, proactive planning often yields the best results. To get started with your 2026 strategy, learn more about how Fidelis partners with our business owner clients to meet their tax and accounting needs. 

Contact us by calling (443) 760-4001, emailing info@fidelistaxandaccounting.com, or via our social media channels. We look forward to speaking with you!

Frequently Asked Questions

What is the best business entity for tax savings in 2026?

The best entity for tax savings in 2026 depends on your profit level, growth plans, and how you pay yourself. Many low-profit or early-stage businesses start as LLCs because they’re simple, but once profits consistently exceed $80,000, an S Corp often reduces self-employment taxes by allowing part of income to be taken as distributions. C Corporations may offer advantages for high-growth businesses that plan to reinvest profits or seek outside investors, especially with the 21% corporate tax rate and the return of 100% bonus depreciation.

Should I change my LLC to an S Corp in 2026?

You may want to change your LLC to an S Corp in 2026 if your business is consistently profitable and you’re paying significant self-employment taxes. An S Corp can lower overall tax liability by splitting income between a reasonable salary (subject to payroll taxes) and distributions (not subject to self-employment tax). However, S Corps come with added payroll requirements and increased IRS scrutiny around reasonable compensation, so the savings should be evaluated annually with a tax professional.

Does entity choice affect audit risk in 2026?

Yes, entity choice can affect audit risk in 2026. S Corps face increased IRS attention, particularly around owners who set unrealistically low salaries to avoid payroll taxes. LLCs may also attract scrutiny if profits rise but the structure is never updated. Across all entities, inconsistent income reporting and multiple revenue streams remain the top audit triggers. Choosing the right entity (and maintaining accurate payroll and reporting) is key to managing audit risk under the more complex 2026 tax rules.

About Christopher

D. Christopher Winans is the President and Founder of Fidelis Tax & Accounting, a proactive, advisory-driven accounting firm based in Annapolis, Maryland, serving clients across 45 states. A licensed Enrolled Agent, Chris is authorized to represent clients before the IRS and state tax authorities nationwide. His career path (from the medical and law enforcement fields to financial planning and taxation) gave him a unique perspective on problem-solving and the importance of planning ahead. When he discovered the need for more proactive, strategy-based tax support, he pursued his EA designation and launched Fidelis to fill that gap.

Since founding Fidelis in 2016, Chris and his team have built a national practice rooted in integrity, open communication, and personalized service. The firm offers a full suite of tax and accounting services, with a strong emphasis on customized tax strategy, ongoing planning, and client education. 

Outside the office, Chris enjoys spending time with his wife, Courtney, and their daughter, Parker. The family is actively involved in Bay Area Community Church and Arnold Christian Academy, where they value community, faith, and service. To learn more about Christopher, connect with him on LinkedIn.