Most comparisons of C corps and S corps read like a tax textbook and leave founders no closer to a decision. The choice is actually determined almost entirely by one question, whether you intend to raise institutional capital, and the tax differences follow from there rather than driving it.
Quick Highlights
Raising venture capital? You need a C corp. S corps allow only one class of stock, so preferred stock is impossible, and venture funds are legally ineligible S corp shareholders.
Double taxation is real but narrow: about 32.85% combined on distributed profit. Startups reinvest rather than distribute, so it is largely deferred to exit.
QSBS only exists for C corps, and the rules improved for stock acquired after July 4, 2025: 50% at three years, 75% at four, 100% at five, with a cap of the greater of $15M or 10 times basis.
S corp elections win for profitable owner-operated businesses that will not take institutional money.
Converting an LLC later has a hidden cost: QSBS generally excludes appreciation from your LLC years, so pre-conversion gain never qualifies.
The one-paragraph answer
If you are raising venture capital, choose a Delaware C corporation; if you run a profitable business you plan to own and draw income from, an S corporation election usually costs less in tax. S corporations can have only one class of stock and no partnership or corporate shareholders, so a venture fund cannot invest in one. A C corp pays a flat 21% federal tax on its own profits, and its stock is the only kind that can qualify for QSBS. For the banking step, see the guide to documents a C-corp or S-corp needs to open a bank account.
If you want the fundamentals first, start with our plain-English explainer on what a C corp is.
Best for founders forming a Delaware C-corp who want their company formed and a business account opened in the same flow, subject to approval: Rho. We assess formation options on price, what's included, and whether a business account can open in the same flow as formation. Rho forms a Delaware C-corp for $400; the last section covers what is included.
The rest of this explains why, and what it costs you either way.
The three structures
C corporation | S corporation | LLC (default) | |
|---|---|---|---|
Entity type | Corporation | Corporation or LLC with an election | LLC |
Federal income tax | 21% at the entity level | Pass-through | Pass-through |
Second layer of tax | Yes, on distributed profit | No | No |
Shareholder limit | None | 100 | None |
Classes of stock | Unlimited | One | Flexible |
Fund investors allowed | Yes | No | Problematic |
QSBS eligible | Yes | No | No |
Why VCs require C corps
Three distinct reasons, and it is worth separating them because founders often collapse them into "investors prefer it."
1. Preferred stock requires multiple classes
Venture financing is built on preferred stock: liquidation preferences, protective provisions, conversion rights, sometimes participation. All of that requires a class of stock separate from founder common.
S corporations are limited to one class of stock. Not "discouraged from," but prohibited. A priced round is structurally impossible inside an S corp.
2. A venture fund cannot legally be an S corp shareholder
S corp shareholders must be individuals, estates, certain trusts, or specific tax-exempt organizations. Partnerships and corporations are prohibited.
A venture fund is almost always a limited partnership. That makes it a categorically ineligible shareholder. It is not a negotiation; the election terminates if a fund buys in.
3. Pass-through income creates real problems for fund investors
This is the one that also rules out LLCs, and it is the least understood.
A pass-through entity distributes taxable income to its owners on K-1s whether or not cash goes with it. Run that through a venture fund to its limited partners and two things happen. Tax-exempt LPs, such as university endowments, pension funds, and foundations, risk unrelated business taxable income, which is taxable to otherwise tax-exempt institutions. Foreign LPs risk effectively connected income, which can create US tax filing obligations for investors who have never set foot in the country.
A C corporation blocks all of it. The corporation pays its own tax, LPs see nothing until an exit, and nobody's tax counsel has to get involved.
The double taxation reality check
C corps are taxed twice: once at the corporate level, once when profits are distributed as dividends. Here is the actual arithmetic on $150,000 of corporate profit, fully distributed to a single shareholder.
```
Corporate taxable income $150,000.00
Corporate tax at 21% $31,500.00
After-tax available to distribute $118,500.00
Qualified dividend tax at 15% $17,775.00
TOTAL TAX $49,275.00
Shareholder keeps $100,725.00
Effective combined rate 32.85%
```
The shortcut: 1 − (0.79 × 0.85) = 32.85%.
If the net investment income tax applies (3.8% above $200,000 of modified AGI for single filers), the dividend layer rises to 18.8% and the combined rate reaches 35.85%.
Why startups mostly ignore this
Double taxation only bites on distributed profit. Startups do not distribute profit; they reinvest it, frequently while posting losses for years. The second layer of tax is deferred until an exit, and at exit QSBS can eliminate it entirely.
That is the actual reason the double-taxation objection carries so little weight in venture-backed companies. It is a real cost for a profitable business paying out its earnings, and close to a non-issue for a company chasing growth.
QSBS: the reason C corps can beat pass-throughs at exit
Qualified Small Business Stock under Section 1202 lets you exclude a large share of the gain on qualifying C corporation stock. Only C corporations produce QSBS. Not S corps, not LLCs.
The rules changed materially in 2025, and the applicable date is July 4, 2025:
Stock acquired on or before July 4, 2025 | Stock acquired after July 4, 2025 | |
|---|---|---|
Holding period and exclusion | 100% only at 5 years | 3 years → 50%, 4 years → 75%, 5 years → 100% |
Per-issuer cap | Greater of $10M or 10× basis | Greater of $15M or 10× basis |
Gross asset limit | $50M | $75M |
The tiered holding period is a genuine change in planning. Under the old rules, a four-year exit produced no exclusion at all. Under the new rules it produces 75%.
One detail that is easy to miss:
Gain that is not excluded is taxed at a maximum 28% rate, not the usual 15% or 20% long-term capital gains rates. At the three-year tier, half your gain is excluded and the other half is taxed at up to 28%.
When an S corp election is genuinely better
For a profitable, owner-operated business with no plans to raise institutional capital, the S corp election usually wins.
You avoid the corporate layer entirely. You pay yourself a reasonable salary subject to FICA, take the rest as distributions free of self-employment tax, and potentially claim the 20% qualified business income deduction on top. For 2026 the QBI thresholds are $201,750 single and $403,500 joint, below which the wage and service-business limits do not apply.
The full mechanics, including the self-employment tax math and the QBI offset that eats into the headline saving, are in our S corp vs LLC guide.
The constraints to accept: no more than 100 shareholders, one class of stock, no partnership or corporate owners, no non-resident alien shareholders, and a reasonable salary the IRS will not challenge.
Converting from an LLC to a C corp
Plenty of founders start as an LLC and convert when a term sheet appears. It works, and it is common enough to be routine.
The conversion is generally tax-free under Section 351 if the control requirements are met.
Two things to know before you assume you can convert later without cost:
Your QSBS holding period generally starts at conversion, not when you formed the LLC. Depending on your route, some holding period may carry over, but do not assume it.
Section 1202 treats your stock basis as the fair market value of the property contributed. So appreciation that accrued during your LLC years is not eligible for exclusion. Convert an LLC already worth $5,000,000 with $1,000,000 of basis and the first $4,000,000 of gain never qualifies for QSBS.
If you have any real expectation of raising and exiting, that second point is a strong argument for incorporating as a C corp from the start rather than converting later.
Choosing, in practice
Delaware C corporation if you plan to raise venture capital, want QSBS, are issuing equity broadly to employees, or expect international or institutional investors.
S corporation election if the business is profitable, you and a small group own it, you will draw income rather than reinvest indefinitely, and you have no plans to take institutional money.
LLC with default taxation if you are early, uncertain, profit is modest, and you want minimum administrative overhead, with the caveat above about converting later.
The failure mode worth avoiding is defaulting into a structure and discovering the mismatch when a term sheet is already on the table. Choosing the right structure at formation is the inexpensive moment; fixing it later costs legal fees, time, and sometimes a meaningful chunk of your QSBS exclusion.
For the mechanics of setting up the C corp itself, see our Delaware C corp guide.
Where Rho fits
If you have landed on a Delaware C corp, the next step is forming it.
Best for founders forming a Delaware C-corp who want their company formed and a business account opened in the same flow, subject to approval: Rho.
When you incorporate a Delaware C-corp with Rho, it costs $400: every formation document is reviewed by a licensed attorney, registered agent service is covered for your first year, your EIN application is filed for you, and 83(b) election support is included. C-corp filings take about 24 hours, starting the next business day after you submit, and your Rho business account opens in the same flow, subject to approval. To be eligible for the C-corp flow, you need at least one US-based owner or officer, a US operating address, and a business outside Rho's excluded industries. Rho also forms LLCs for $349 all in, state filing fee included. See how Rho Incorporation works.
The Rho Incorporation launch post covers how it works.