An S corp may own up to 100 percent of an LLC, or limited liability company. While all but single-member LLCs cannot be shareholders in S corporations, the reverse -- an S corporation owning an LLC -- is legal. The similarity of tax treatment for S corps and LLCs eliminates most of the common concerns about IRS issues. Both structures "pass through" profits and losses to their owners for personal income tax submission.
S Corporation Advantages versus LLC
S corps are not legally different from C, or standard, corporations. S corp owners simply choose a different tax treatment with other corporation issues intact. They enjoy some benefits including offering stock, the ability to be sold or purchased as desired, perpetual existence, tax-free benefits like insurance, retirement plans, and travel, and changing ownership doesn't need to affect management. These features are unavailable to LLCs. For example, LLCs are legally designed to have a defined lifespan. Corporations are forever, unless liquidated by their stockholders. Conversely, some states even statutorily limit LLCs to having a 30-year maximum existence.
LLC Advantages versus S Corp
It is less expensive to form an LLC. Much less documentation and other requirements are needed to create and manage an LLC. Owners -- called members -- are not restricted in number or citizenship, as with S corps, with no limit on the number of owners or U.S. citizen mandates. This gives LLCs the opportunity for attract foreign investors. Wide flexibility to structure the company as you wish, even treating it like a sole proprietorship in single member LLCs.
S Corp Motivation to Own an LLC
Because of the similar tax treatment options of both organizations, there is seldom an overriding tax benefit to S corps owning LLCs. However, the total flexibility offered by LLCs can be attractive to S corps. For example, assume that three LLC owners, who are known as members, invest $50,000, $40,000, and $10,000 each. In a corporation, the $10,000 stockholder is entitled to only 10 percent of the profits. However, the LLC members could decide to divide profits equally. In other cases, an S corp may see a new product or marketing opportunity with circumstances that make owning an LLC for this opportunity advantageous. Buying or forming an LLC, owned by the S corp may be operationally more cost efficient.
An LLC Owning an S Corp
Some LLCs cannot own S corps, just as one S corp cannot own another S corp. Since both are "pass through" entities that have no tax liability themselves, pass-through companies owning other pass-through organizations would benefit only the tax preparers, not the owners. There is, however, one way for an LLC to own stock in an S corp. A single member LLC, taxed as a sole proprietorship, is called a "disregarded entity" by the IRS. Treated like an unincorporated individual, this LLC could own stock in an S corp and receive profits in relation to its ownership percentage.
Read More: How to Change From an LLC to a Sub S Corp