Sole Proprietor vs LLC: What’s Better for Your Taxes in 2025 (and When to Switch)

Let’s say you’ve been doing your thing — freelancing, consulting, selling stuff online, whatever. Business is going well. You’re starting to earn more than just coffee money. Now you’re wondering:

“Should I stay a sole proprietor or form an LLC?”
“Will it actually save me money on taxes?”

You’re not alone. Every self-employed person hits this crossroads. And truthfully, the answer depends on how much you’re making, where you live, and whether you’re ready for a little more paperwork.

So let’s talk it out like two humans. I’ll explain what changes (and what doesn’t) when you switch from being a sole proprietor to an LLC — and how to tell if it’s worth the hassle for you.

Okay, so what is a sole proprietorship?

If you’re running a business and haven’t officially set up anything legal, then congrats — you’re a sole proprietor by default. It’s automatic.

You don’t have to fill out any forms (besides maybe a local business license), and the IRS just sees you and your business as the same person.

It’s simple. But with simplicity comes limits.

• You’re on the hook personally if your business gets sued.

• And when it comes to taxes, you pay self-employment tax on every single dollar of profit.

We’ll get into that more in a minute.

What’s an LLC, then?

An LLC — short for Limited Liability Company — is like giving your business its own legal identity. It’s not just “you doing business.” It’s a separate entity. You still control it, but now the business is officially its own thing.

That means:

• Your personal assets (like your house or car) are better protected if your business gets into trouble.

• And you get more flexibility in how your income is taxed.

That second one is where the magic can happen.

How taxes work for sole proprietors

Let’s say you made $80,000 this year freelancing. You had $10,000 in expenses (laptop, software, subscriptions), so your net profit is $70,000.

Here’s how the taxes shake out:

1. You report it on your personal tax return using Schedule C.

2. You pay income tax based on your total earnings (this varies depending on your tax bracket).

3. You also pay self-employment tax — 15.3% of your net profit — to cover Social Security and Medicare.

So on that $70,000 profit, you owe $10,710 in self-employment tax. On top of your regular income tax.

It adds up fast. And every dollar you make gets hit with that 15.3%.

How taxes work with an LLC (especially an S-Corp)

Here’s where things get interesting.

When you form an LLC, by default, the IRS still taxes you like a sole proprietor. Nothing changes there unless you ask it to.

But you can choose to have your LLC taxed as an S-Corp — and that’s where the real tax savings can come in.

Here’s the key difference:

With an S-Corp, you can split your income into two parts:

1. A salary that you pay yourself (this is taxed like normal wages and subject to that 15.3% tax)

2. Distributions, or the rest of your profit (this isn’t hit with self-employment tax)

Let’s say you make that same $70,000 profit:

• You pay yourself a reasonable salary of $40,000 → you pay 15.3% on that

• The remaining $30,000 is a distribution → no self-employment tax on that

That alone saves you around $4,590 in self-employment tax.

It’s perfectly legal. The IRS even expects it — as long as the salary you pay yourself is realistic.

So why doesn’t everyone become an S-Corp?

Short answer? Because it’s more work.

When you elect S-Corp status, you’ll need to:

• Run payroll (yes, even if it’s just for yourself)

• File extra tax forms

• Possibly pay more in accounting or bookkeeping help

• Follow a few more rules

Also, some states charge extra fees to maintain an LLC. California, for example, charges an $800 annual minimum tax for LLCs. That’s a chunk of change if your business isn’t making much yet.

So it’s not a one-size-fits-all deal. For some folks, it’s worth it. For others, not yet.

What about regular business expenses?

Good news: Whether you’re a sole proprietor or an LLC, you can deduct a lot of the same things.

If it’s a legit business expense, it’s usually fair game.

Think:

• Office supplies

• Software or tools

• Internet (or part of it)

• Your home office (if you have one)

• Travel for client meetings or work trips

• A portion of your phone bill

But LLCs taxed as S-Corps get a couple extra benefits. You can:

• Deduct your own salary as a business expense

• Possibly deduct your health insurance premiums (if you set it up right)

• Deduct the employer half of payroll taxes

So yeah — more ways to legally lower your taxable income.

How much does it cost to run an LLC?

It depends on your state, but here’s a rough breakdown:

• LLC formation fees: $50–$500 one-time

• Annual filing fees: $0–$800/year (California being the priciest)

• Payroll service (if you’re an S-Corp): $30–$100/month

• Bookkeeping or CPA help: $500–$1,500/year if you hire someone

So the tax savings need to outweigh the added costs. If you’re making less than $40k–$50k a year, staying a sole prop might make more sense for now.

But once your profit hits $60k, $70k, or more — the savings usually win.

Real example: Meet Jasmine

Jasmine is a copywriter based in Texas. She made $90,000 in freelance income last year.

As a sole proprietor:

• $90,000 profit

• $13,770 in self-employment tax

As an LLC taxed as an S-Corp:

• Paid herself a $50,000 salary

• Paid SE tax on salary: $7,650

• Took $40,000 in distributions → no SE tax

Total tax savings: $6,120

That’s enough to fund a retirement account, take a vacation, or finally buy that standing desk she’s been eyeing.

When should you stick with sole proprietorship?

Here’s when it might be better to wait on forming an LLC:

• You’re just getting started

• You’re making under $40,000 a year

• You’re not ready to deal with extra forms and payroll

• You’re testing out a side hustle before going full-time

You can always switch later. Starting simple isn’t wrong — it’s smart.

Quick recap: Sole prop vs LLC (S-Corp)

So… should you make the switch?

Here’s the bottom line.

If you’re pulling in real profit — think $60,000 or more — and you’re ready to run your business like a business, forming an LLC and choosing S-Corp taxation could save you thousands every year.

But if you’re still building things up, or want to keep it low-maintenance while you get your bearings, being a sole proprietor is totally fine. You’re not doing anything wrong.

You can always level up later when you’re ready.

And when that time comes? Get a good accountant in your corner. One who understands small businesses and won’t bore you to death.

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