LLC Taxes

Tax Benefits of a Limited Liability Company

Like a sole proprietorship or partnership, an LLC enjoys pass-through taxation. This means that owners (also known as "members") report their share of profits or losses in the company on their individual tax returns. The Internal Revenue Service (IRS) does not assess taxes on the company itself. This avoids the "double taxation" that general, or "C," corporations experience, where profits are taxed once at the corporate level and dividends are taxed again at the shareholder level.

LLCs can offer an additional tax advantage over a corporation because the allocation of earnings among owners is flexible. Profits and losses in an LLC do not necessarily need to be distributed in proportion to ownership. The owners of an LLC can agree to allocate the company's profits and losses among themselves however they see fit and not necessarily based on the percentage of the company each owner controls.

Single-Owner LLCs vs. Multiple-Owner LLCs

Single-Owner LLCs - Unless the owner of the company specifically elects to do otherwise, the IRS will automatically classify a single-owner LLC as a sole proprietor. The owner of the LLC reports the company's profits or losses on Schedule C of their personal tax return (usually Form 1040).

Multiple-Owner LLCs - Similarly, unless they elect to do otherwise, LLCs with multiple owners (i.e. multiple members) are automatically taxed as partnerships at the federal level. Though the LLC itself does not pay taxes to the IRS, it does file Form 1065 "U.S. Partnership Return of Income" and issues each owner a Schedule K-1 that reports each owner's individual share of profits or losses. Owners then file their personal tax returns (usually Form 1040) and report their income or loss from the LLC on Schedule E.

Electing Corporate Taxation

Any LLC may elect to be taxed by the IRS as a corporation. With pass-through taxation, LLC owners are required to pay taxes on the entire income that the LLC has allocated to them. Even if an LLC leaves money in the bank to support next year's business operations, owners still have to pay taxes on all reported LLC profits as if the profits had been distributed as cash to the owners.

In contrast, general, C corporations use their own cash on hand to pay taxes on the corporation's profits. A C corporation's owners do not have to pay individual taxes on profits unless the corporation pays a cash dividend to the owners.

Another potential tax advantage to being treated as a corporation is that with corporate taxation, the first $75,000 in income is taxed at corporate tax rates that are generally lower than the individual tax rates assessed on individuals who own all or part of an LLC.

For specific guidance, LLC owners should consult their accountant or tax advisor to discuss whether it makes sense to elect corporate taxation. If the owners of an LLC decide to elect corporate taxation, they can accomplish this election by filing Form 8832 with the IRS.

Even if you are not sure whether you want your LLC to be taxed on a pass-through basis or a corporate basis, you can still form your LLC now and decide later how you want your LLC to be taxed.

Note: LLC owners can elect for the IRS to tax the LLC as a sole proprietorship, partnership, C Corporation, or S Corporation. Owners make this election through the IRS after the company forms with the state.

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