Unlike corporations which are treated as separate tax entities, the IRS and the Tax Code treat LLCs as “pass-through” entities. Thus, an LLC or “Limited Liability Company” is a business structure that combines the pass-through taxation of a partnership or sole proprietorship with the limited liability of a corporation. The IRS treats an LLC like a sole proprietorship or a partnership, depending on the number of members.
One-member LLCs are considered sole proprietorships for tax purposes. Thus, the LLC itself neither pays taxes nor files a return. The IRS treats LLCs with multiple members as partnerships for tax purposes. Similar to single-member LLCs, these co-owned LLCs neither pay taxes nor file a return; rather, LLC owners each report income or loss on their distributive share on their personal income tax returns, attaching Schedule E.
The IRS treats each member of an LLC as if the member received his or her entire distributive share annually. Thus, the member of an LLC must pay taxes on this entire distributive share, regardless of whether the LLC actually made such distribution during the applicable tax year.
LLC members make no contributions to the Social Security and Medicare systems because nothing is withheld for these benefits from the earnings of LLC members. Instead, most LLC owners must pay “self-employment taxes” directly to the IRS.
Any owner who works in or helps manage the business must pay self-employment tax on his or her distributive share, while inactive owners or members, individuals that have only invested money in the LLC, may be exempt from paying self-employment tax. An inactive member must not provide services or participate in management decisions on behalf of the LLC.
The owners of an LLC who are subject to the self-employment tax report the amount due on Schedule SE. LLC owners pay double the usual rate of self-employment tax as regular employees, simply because the contributions of regular employees are matched by their employers. However, LLC owners may deduct half of the total amount from their taxable income, which is not insignificant in itself.
It is of the utmost importance when facing these tax-related issues and concerns to consider the assistance of an experienced tax attorney. If you live in the New York or the Tri-State area and are facing any of the questions or scenarios presented above, call THE TAX EXPERTS at the Thorgood Law Firm www.thorgoodlaw.com. For a FREE consultation, call 212-490-0704.
