LLC or S-corp for a 2 person California consulting company

My business partner and I currently work as independent contractors in California writing software and have decided to turn it into a real company. Ownership will be 50/50. All revenue will come from billable hours writing software for clients. No products to sell or revenue from selling software, just services. Eventually we'd like to bring on employees but it's just the two of us for the near future.

We've gotten mixed advice. An accountant suggested an LLC. An attorney suggested S-Corp saying that it's a myth that an LLC is less work than an S-Corp. It looks like the finances net out pretty closely between the two structures with just 2 people and enough revenue to pay ourselves.

Any advice on whether an LLC or S-Corp is more appropriate?

This Q comes up sufficiently frequently that I blogged about it almost two years ago (Should I form an LLC or a corporation? ). Here is the most important portion of that post:

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The following are the factors that, in my experience, are most likely to lead an entrepreneur to form a corporation rather than an LLC:

• An expectation that outside funding will be sought, especially from institutional investors (venture capitalists, in particular, tend to invest only in corporations).
• A desire to offer tax-advantageous equity ownership interests to employees and independent contractors (more straightforward to accomplish with a corporation than with an LLC).
• Prospective customers may feel that a corporation is more substantial and more “real” than an LLC (marketing and sales consideration).

The most significant disadvantage of a corporation is compliance-related overhead: The need to conduct annual shareholder meetings and regular board meetings and to prepare and file minutes for those meetings.

So what I have seen among my clients is: If none of the pro-corporation factors described above is present, the client forms an LLC to avoid the expense and effort associated with compliance-related tasks.

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Keep in mind that, with two founders (rather than one), whichever type of entity you create you will need to have in place an appropriate agreement addressing vesting of equity interests, buy-sell restrictions, and the like.

Disclaimer: This information does not constitute legal advice and does not establish an attorney-client relationship.

I would do an LLC. Dealing with S Corp taxes and K1s at the end of the year was never fun, for me.

One thing to consider is protecting the company's business from the claims of your personal creditors (and those of your business partner.)

Shares of a corporation are considered property, so if a creditor sues you personally, he might be able to claim the shares of the corporation. This would probably have two bad effects: first, it would probably destroy the S-corp election, and second, it would mix the creditor up into the management of the company and the creditor would likely try to sell off the business to satisfy the debt.

An LLC can have something called "charging order protection," which means that your creditors can only get the money that the LLC would have distributed to you, but don't have the ability to take over whatever management rights you had in the LLC. Note, though, that this is an evolving area of law and can vary dramatically state-to-state, so it's best to consult an attorney.

I would also do an LLC, if not just because that's what most people would do. Either one would work though.