LLC vs Sole Proprietorship: Tax Treatment Compared 2026

Understand when forming an LLC changes your taxes — and when it doesn't. Compare liability protection, filing requirements, and costs.

The Default Tax Reality

A single-member LLC is taxed identically to a sole proprietorship by default. Both report business income on Schedule C and pay the same 15.3% self-employment tax. Forming an LLC changes your legal protection, not your tax bill — unless you elect a different tax status.

Liability Protection

A sole proprietorship offers no separation between you and your business — personal assets are exposed to lawsuits and business debts. An LLC creates a legal shield: creditors can generally only reach business assets. This is the primary reason to form an LLC.

Costs and Paperwork

Sole proprietorships require zero formation cost and minimal paperwork — just report income on Schedule C. LLCs require state filing fees ($50 to $500 depending on state), annual report fees, a registered agent, and an operating agreement. The cost of liability protection varies by state.

When an LLC Is Worth It

Form an LLC if you work in a liability-prone field (contracting, consulting, any client-facing service), have significant personal assets to protect, or want the credibility that comes with a registered business entity. Skip it if you're testing a low-risk side hustle.

Frequently Asked Questions

Does an LLC reduce self-employment tax?
No. A single-member LLC is a disregarded entity for tax purposes — you still pay 15.3% self-employment tax on net profit. Only an S-Corp election changes that, by paying SE tax on salary instead of distributions.
How much does forming an LLC cost?
State filing fees range from $50 (Arizona, Iowa) to $500 (Massachusetts). Annual fees range from $0 to $800 (California franchise tax). Registered agent services cost $50-300/year if you don't serve as your own agent.
Can I convert from sole proprietorship to LLC later?
Yes. You can form an LLC at any time and continue operating under it. Existing business assets, contracts, and client relationships can transfer to the LLC, though you should formally document the transfer.