LLP or S-Corp? 2025 Tax Tips for Law Firms

Introduction

Law firm owners face a pivotal decision when structuring their practice: choosing between a Limited Liability Partnership (LLP) or an S corporation (S-Corp), each with distinct tax implications that can significantly impact profitability. Inexperienced tax advisors may recommend a one-size-fits-all approach, overlooking critical deductions like the Qualified Business Income (QBI) deduction or entity-specific strategies, leading to overpaid taxes. Are you confident your law firm’s structure maximizes tax savings in light of 2025’s updated tax landscape?

At Kewal Krishan & Co, our expert tax advisors help law firms save an average of $50,000 annually, potentially totaling $1 million over a decade through optimized entity planning. This blog compares LLPs and S-Corps for 2025, leveraging Internal Revenue Code (IRC) provisions, with tailored examples and compliance steps for attorneys. With the One Big Beautiful Bill Act (OBBBA) making QBI permanent and expanding thresholds, strategic choices are more critical than ever. Optimize your firm’s tax position now with insights from Our Tax Planning Services.

Comparing LLPs and S-Corps: Tax Implications for 2025

Both LLPs and S-Corps are pass-through entities, meaning income flows to owners’ personal returns, avoiding corporate tax under IRC § 11. However, their tax treatments differ significantly, especially with OBBBA’s permanent QBI deduction under IRC § 199A.

LLP Overview

• Structure: Partners share profits/losses per agreement, reported on Form 1065 and Schedule K-1. No employee status; all income is self-employment (SE) income, subject to 15.3% SE tax (IRC § 1402).
• QBI Deduction: Eligible for 20% deduction on qualified business income, subject to Specified Service Trade or Business (SSTB) phase-outs for legal services above $75,000 single/$150,000 joint, fully phasing out at $275,000/$550,000 (IRC § 199A).
• Flexibility: No shareholder limits; partners can include non-residents.

S-Corp Overview

• Structure: Shareholders report income via Form 1120-S and K-1. Owners can be employees, receiving reasonable salaries subject to payroll tax, while distributions avoid SE tax.
• QBI Deduction: Similarly eligible, but wage limitation (50% of W-2 wages) often benefits firms with higher payroll.
• Restrictions: Limited to 100 shareholders, all U.S. citizens/residents.

For details, see IRS Publication 535.

2025 Tax Advantages and Considerations

LLP Advantages

• Simpler Administration: No payroll for partners; all income reported as SE income.
• QBI Access: Full 20% deduction if below thresholds, with OBBBA’s expanded $150,000 joint phase-in easing SSTB restrictions.
• Flexibility: Ideal for firms with international partners or variable income splits.

S-Corp Advantages

• SE Tax Savings: Distributions avoid 15.3% SE tax, reducing liability for high earners.
• QBI Optimization: Wage limitation benefits firms with substantial employee salaries.
• Payroll Structure: Formal salaries enhance audit defensibility.

Considerations

• SSTB Phase-Outs: Both face QBI limits for legal services, but higher wages in S-Corps may preserve deductions.
• Compliance Costs: S-Corps require payroll and stricter IRS scrutiny on reasonable compensation (IRC § 3121).

Detailed Example: LLP vs. S-Corp Tax Outcomes

Consider a law firm with two equal partners, generating $400,000 in net income in 2025, filing jointly with $450,000 total taxable income. The firm evaluates LLP vs. S-Corp.

LLP Scenario

• Income: Each partner receives $200,000 (Schedule K-1), all subject to SE tax (15.3% = $30,600 per partner, half deductible under IRC § 164(f)).
• QBI Deduction: 20% of $200,000 = $40,000, but phase-out applies ($450,000 exceeds $150,000 threshold, 75% phased out by $550,000). Deduction reduced to $10,000 per partner.
• Tax: Net taxable income $190,000 per partner, at 32% bracket + SE tax = ~$64,600 each ($129,200 total).

S-Corp Scenario

• Income: Each owner takes $100,000 salary (payroll tax 15.3% = $15,300) and $100,000 distribution (no SE tax). Total payroll tax = $30,600.
• QBI Deduction: 20% of $200,000 = $40,000, limited to 50% of wages ($50,000). Phase-out reduces to $12,500 per partner.
• Tax: Taxable income $187,500 per partner, at 32% + payroll tax = ~$60,150 each ($120,300 total), saving $8,900 over LLP.

S-Corp saves due to SE tax avoidance on distributions, amplified by reasonable salary structuring.

Alternative Scenario

For a solo attorney with $150,000 QBI (below $150,000 threshold): LLP and S-Corp yield identical $30,000 QBI deductions, but S-Corp saves ~$7,650 by allocating $50,000 as distribution, avoiding SE tax.

Step-by-Step Guide for Taxpayer Compliance

To select and maintain the optimal structure for 2025, follow these steps:

1. Assess Firm Needs: Evaluate partner count, income levels, and international status to choose LLP or S-Corp.
2. Form Entity: File state-specific forms (e.g., CA Form LLP-1, NY Form 2036) or IRS Form 2553 for S-Corp election by March 15, 2025.
3. Calculate QBI: Determine qualified income, excluding non-business items (IRC § 199A(c)).
4. Set Salaries (S-Corp): Establish reasonable compensation per IRS guidelines to avoid audit risk.
5. File Returns: Use Form 1065 (LLP) or 1120-S (S-Corp), issuing K-1s; report QBI on Form 8995/8995-A with Form 1040 by April 15, 2026, or extend with Form 4868.
6. Pay Taxes: Include SE or payroll taxes in quarterly estimates via Form 1040-ES.
7. Retain Records: Keep partnership agreements, payroll records, and basis calculations for three years (IRC § 6001).

For multi-jurisdictional firms, explore Our Cross-Border Tax Services.

Common Pitfalls to Avoid

• Unreasonable Salaries (S-Corp): Low salaries to avoid payroll tax invite IRS audits (IRC § 3121).
• QBI Miscalculation: Exclude non-qualified income (e.g., investment returns) per IRC § 199A(c).
• Phase-Out Errors: Misapplying SSTB thresholds reduces deductions; use updated OBBBA limits.
• Late S-Corp Election: File Form 2553 by March 15 to avoid default partnership status.

Why Work with a Tax Expert?

Choosing between LLP vs S-Corp involves balancing QBI benefits, SE tax savings, and compliance burdens, especially with OBBBA’s updates. Generic advisors may misjudge reasonable salaries or phase-outs, costing thousands. Kewal Krishan & Co delivers tailored structuring and QBI optimization under IRC § 199A, ensuring compliance and savings. Our expertise mitigates risks, as seen in Our Tax Litigation Services.

Conclusion

In 2025, OBBBA’s permanent QBI deduction and expanded thresholds enhance tax planning for law firms, making LLP vs. S-Corp decisions pivotal. S-Corps often save more via SE tax avoidance, while LLPs suit simpler or international structures. Strategic selection and meticulous compliance are essential to maximize benefits—evaluate your firm’s structure now to secure savings.

Call to Action

Schedule a consultation with Anshul Goyal, CPA EA FCA, a licensed U.S. CPA and Enrolled Agent, admitted to practice before the IRS, specializing in tax litigation and cross-border tax for U.S. businesses and Indians in the U.S. Contact us at Kewal Krishan & Co to optimize your law firm’s tax strategy.

About Our CPA

Anshul Goyal, CPA EA FCA, is a licensed U.S. CPA and Enrolled Agent, representing clients in IRS tax litigation and assisting with cross-border tax compliance for U.S. businesses and Indians in the U.S. His expertise ensures tailored strategies that maximize savings and ensure compliance.

Disclaimer

This blog provides general information for educational purposes only and does not constitute tax, legal, or financial advice. Tax laws change frequently, and individual circumstances vary. Consult a qualified tax professional before making decisions. The author and firm disclaim liability for actions taken based on this content.

FAQs

1. What’s the QBI deduction for law firms?

20% of qualified income, limited by SSTB phase-outs (IRC § 199A).

2. How does OBBBA affect QBI?

Permanent deduction, $150,000 joint phase-in threshold.

3. Why choose S-Corp?

Avoids SE tax on distributions, enhancing savings.

4. Are LLPs simpler?

Yes, no payroll for partners, but all income SE taxable.

5. How to elect S-Corp?

File Form 2553 by March 15, 2025.