LLC vs S Corp for a new business?

There's a bit of a confusion here. First, you have to understand (according to the IRS circular 230), that my answer was not intended or written to be used, and it cannot be used by any taxpayer, for the purpose of avoiding penalties that may be imposed on the taxpayer. This is not a tax advice.

The benefits of S-Corp are that you may not be required to pay SE tax on all of your income. You're required to pay yourself a reasonable salary, which doesn't have to be all of your profits. With LLC you'll pay SE taxes on all of your earned income.

Another benefit specific to California is the $800 yearly fee that all the entities must pay. S-Corps are exempt for their first year. LLC's are not.

As to the organizational and operational costs, then you can set it as LLC as far as the Secretary of State is concerned, and only treat is as an S-Corp for tax purposes. Thus you can have a simpler entity (LLC, no need in meetings, directors, etc) with the S-Corp tax benefits. However, California taxes S-Corp income (1.5% on net income, vs LLC taxes on gross receipts). Keep that in mind.

As to writing off 1/2 of the SE taxes as a deduction on your personal income - its a wash, you'll write it off of your S-Corp income as an expense when you pay yourself a salary. There are additional taxes employers pay but they're not that high and the potential savings of SE tax on part of your income may very well be worth paying these taxes.

Make sure to consult with a tax adviser with details, to get an advice that would be best for you. As to the costs... You can do the taxes yourself (although I wouldn't advise that), you can do the payrolls yourself (although I would definitely not advise that), and save all these additional S-Corp related expenses. If you need a professional to do your S-Corp taxes, you'd probably need one for LLC taxes as well (in California you have to file a tax return for the LLC's as well).

Something else to keep in mind - in some matters you cannot form an LLC in California. If your profession requires a California license, you cannot form an LLC. That's why CPA's in California never work under LLC, but rather partnerships (while EA's, not licensed by the State, can work under LLC).

One other thing to think about is what happens to the business if one of your creditors (i.e. not a creditor of the business) goes after you personally. In most states, the creditor can take your shares of an S-Corp and use the resulting control to liquidate the company. LLCs can provide some protection from this in the form of "charging order protection" -- in this case, the creditor only gets to intercept the stream of payments to you from the LLC, but doesn't get control of the LLC itself.

Charging order protection varies state-by-state, especially as applied to single-member LLCs, so ask an attorney for your specific situation.

One more thing to keep in mind: In California, LLCs are subject to an annual minimum franchise tax of $800 regardless of whether your company makes a profit or not. Corporations (including S Corps), on the other hand, are exempt from this minimum franchise tax for their first tax year of existence.