Converting an LLC to a Corporation: Tax Implications of Changing Your Business Entity Structure

By Yarik Yarosh, CPA ·September 5, 2026 ·7 min read

Written by Yarik Yarosh, CPA (US & Canada) September 5, 2026 · FL CPA license AC61704 · CPA Ontario

Entity conversion is not just a legal filing; it is a tax event with consequences that can persist for years. Under IRC 351, the transfer of property to a corporation in exchange for stock is tax-free if the transferors control (80% or more) the corporation immediately after the transfer. This makes the conversion from an LLC (taxed as a partnership or disregarded entity) to a C-Corp or S-Corp generally tax-free, because the LLC members are transferring all of the LLC’s assets to the new corporation in exchange for all of its stock. The members’ basis in their LLC interests carries over to become their basis in the corporation’s stock, and the corporation takes a carryover basis in the assets received. However, several traps can trigger unexpected tax: if liabilities exceed basis (IRC 357(c)), if services are part of the exchange (the services portion is not tax-free), or if the corporation assumes liabilities that lack a business purpose (IRC 357(b)). Going the other direction (corporation to LLC) is almost always a taxable event because the corporation must recognize gain on all appreciated assets under IRC 336, creating a potential double-tax situation for C-Corps that is often the single largest barrier to entity conversion.

✓Key takeaway

Conversion tax treatment summary:

Conversion	Tax-Free?	Key Rule
LLC (partnership) to C-Corp	Generally yes	IRC 351 (80% control test)
LLC (partnership) to S-Corp	Generally yes	IRC 351 + S election on Form 2553
Sole proprietorship to C-Corp or S-Corp	Generally yes	IRC 351
C-Corp to LLC	NO (double tax)	IRC 336 (corporate gain) + IRC 331 (shareholder gain)
S-Corp to LLC	Partially taxable	IRC 336 (gain recognized by S-Corp, passed through to shareholders); BIG tax may apply if former C-Corp
C-Corp to S-Corp	Tax-free conversion (just file Form 2553)	But: BIG tax applies to built-in gains for 5 years if assets were appreciated at conversion
S-Corp to C-Corp	Tax-free conversion (revoke S election)	But: trapped E&P and loss of pass-through treatment

IRC 351 requirements:

Requirement	Rule
Property transferred	Cash, assets, or property (not services alone)
In exchange for stock	Must receive stock (not debt, warrants, or other consideration)
Control immediately after	Transferors must own 80% or more of the total combined voting power AND 80% of each class of non-voting stock
Boot received	Any non-stock consideration (cash, debt relief in excess of basis) is taxable to the extent of gain

What are the tax consequences of converting your entity?

Hypothetical example

Round numbers. An LLC with two equal members wants to convert to a C-Corporation. The LLC’s balance sheet:

Asset	FMV	Tax Basis	Built-In Gain
Cash	$50,000	$50,000	$0
Equipment	$80,000	$30,000	$50,000
Real estate	$500,000	$200,000	$300,000
Accounts receivable	$40,000	$40,000	$0
Goodwill (self-created)	$200,000	$0	$200,000
Total	$870,000	$320,000	$550,000

Liabilities: $250,000 (mortgage on real estate + credit line) Each member’s outside basis: $35,000 ($320,000 total basis - $250,000 liabilities = $70,000 / 2 members)

LLC to C-Corp conversion (IRC 351, assets-over method):

Step	Tax Effect
LLC transfers all assets to new C-Corp	C-Corp takes carryover basis ($320,000)
C-Corp assumes all liabilities ($250,000)
C-Corp issues stock to members (50/50)
Check: do liabilities exceed basis? $250,000 > $320,000?	No ($250K < $320K), so no gain under IRC 357(c)

Result	Member A	Member B
Basis in C-Corp stock	$35,000 - $0 boot = $35,000	$35,000
Built-in gain in stock	$400,000 ($435K FMV - $35K basis)	$400,000
Tax recognized	$0	$0

The conversion is tax-free. The built-in gain ($550,000 in assets, $800,000 in stock) is deferred until the stock or assets are sold.

Trap: Liabilities exceed basis If the LLC had $350,000 in liabilities (exceeding the $320,000 aggregate basis):

Item	Amount
Liabilities assumed by C-Corp	$350,000
Aggregate basis of assets transferred	$320,000
Excess liabilities	$30,000
Gain recognized (IRC 357(c))	$30,000 (allocated to members based on their share of liabilities)
Character	Capital gain (generally)

To avoid this trap, the members could contribute additional cash to increase the LLC’s basis before converting, or pay down liabilities before the conversion.

Converting C-Corp to LLC (the expensive direction):

Same facts, but now the entity is a C-Corp and the owners want to convert to an LLC.

Step	Tax at Corporate Level	Tax at Shareholder Level
C-Corp must liquidate (deemed sale of all assets at FMV under IRC 336)
Gain on assets: $870,000 FMV - $320,000 basis = $550,000	Corporate tax: $550,000 x 21% = $115,500
Liquidating distribution to shareholders: $870,000 - $250,000 liabilities - $115,500 tax = $504,500
Shareholder gain: $504,500 - $70,000 basis (combined) = $434,500		Shareholder tax: $434,500 x 23.8% = $103,411
Total tax on conversion		$218,911

This is why converting from a C-Corp to an LLC is rarely done when there are significant built-in gains. The double tax ($218,911 on $550,000 of built-in gain) makes it prohibitively expensive.

Converting LLC to S-Corp: The mechanics are the same as LLC to C-Corp (IRC 351 applies), but with an additional step: file Form 2553 to elect S-Corp status.

Timing consideration	Details
File Form 2553 within 75 days of formation	To be effective from the start
If converting an existing LLC mid-year	The S election can be retroactive to the beginning of the tax year if filed within 75 days
Late election relief	Available under Rev. Proc. 2013-30 if missed the deadline

Converting C-Corp to S-Corp (form filing, but BIG tax risk):

Item	Details
Filing	Revoke the C-Corp status? No. File Form 2553 to elect S-Corp treatment
Tax-free?	Yes, the election itself is not a taxable event
BIG tax (IRC 1374)	For 5 years after conversion, the S-Corp pays a 21% tax on built-in gains recognized on assets that were appreciated at the time of conversion
AAA	Starts at $0; C-Corp accumulated E&P is trapped and creates dividend risk on distributions

Example: C-Corp converts to S-Corp with $550,000 in net unrealized built-in gain (NUBIG). | If assets are sold within 5 years | BIG tax: 21% x gain recognized (up to NUBIG) | | If assets are held for 5+ years | No BIG tax (gain escapes the corporate-level tax) |

Decision framework:

Current Entity	Want to Convert To	Recommendation
LLC (single member)	S-Corp	Do it (IRC 351, tax-free); reduces SE tax
LLC (partnership)	S-Corp	Do it (IRC 351, tax-free); watch liability-exceeds-basis trap
LLC (partnership)	C-Corp (for QSBS or venture)	Do it (IRC 351, tax-free); new stock qualifies as QSBS if requirements met
S-Corp	C-Corp	Easy (revoke S election); but lose pass-through benefits
C-Corp	S-Corp	File Form 2553; watch BIG tax for 5 years; plan asset dispositions
C-Corp	LLC	Avoid if possible (double tax on liquidation); consider keeping C-Corp and electing S instead
S-Corp	LLC	Taxable (IRC 336 pass-through gain); less painful than C-Corp to LLC because no corporate-level tax (unless BIG tax applies)

Illustrative numbers only, not a real client and not advice for your facts.

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Cite this page

Yarik Yarosh, CPA. "Converting an LLC to a Corporation: Tax Implications of Changing Your Business Entity Structure." Blue Cloud CPA, September 5, 2026. https://bluecloudcpa.com/guides/small-business-tax-implications-llc-to-corporation-conversion

This guide is general information, not tax advice for your specific situation. Which points apply, and how, depends on your facts.