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LLC Tax Guide for Business Owners

LLC Tax Guide for Business Owners
Ines Zemelman, EA
15 October 2021

Have you recently started a business and are not sure about the tax implications? Your business structure determines your tax liability. Limited Liability Company (LLC) is one of the choices that are available to you. In this article, you will learn about how LLC tax works? 

A limited liability company (LLC) is one of the structures that businesses use to conduct their operation. The person or people who own the LLC are called members. LLCs members may include individuals, corporations, foreign entities, or other LLCs. 

How do LLC taxes work?

How an LLC pays income tax depends on a lot of factors. Before going into that we need to understand the basics. When the LLC is owned by an individual it is called single-member LLC. When there are multiple owners it is called multi-member LLC. 

The ownership restriction varies from state to state. Generally, few types of entities such as banks and insurance cannot elect to be LLCs.

LLC is a hybrid form of pass-through taxation (sole proprietorship/ partnership) and limited liability (company). It offers the best of both worlds. For federal tax purposes, an LLC is treated as a pass-through entity. 

1. How do LLCs pay income taxes?

Your LLC structure and the number of owners will determine your tax obligations.  

Single-Member LLC Taxes: 

IRS considers single-member LLCs as “Disregarded Entities”. This means that all the business activities will be reflected in the owner’s return.

Imagine you solely own an LLC and have made a $5000 profit and reported it on your personal tax return. You then decided to pay yourself a distribution of $1000. 

Since you already paid income tax on your profits you will not have to pay any income tax. 

However, you do need to pay self-employment tax. 

Multi-member LLCs

An LLC with two domestic members is considered a partnership by default. And Instead of collecting taxes from LLC, the IRS requires the profits to flow through the members as per their agreement. Each member pays the partnership tax on their personal tax return on a pro-rata basis.

For example, Frankie and Johnny own 60% and 40% share in a business operating as a multi-member LLC. The current year’s profit is $10000.They both will be responsible for paying taxes on their share of profits i.e. 6000 (Frankie) and 4000 (Johnny). If the LLC qualifies for any tax deduction or tax credit both members can claim it with their respective ownership share. 

Now if Frankie and Johnny decide to pay themselves with a distribution of $1000, there will be no additional tax. However, they both have to pay self-employment taxes.

LLC with a corporate tax status

LLCs are preferred over other business structures. This is because it allows the business owners the flexibility to select how to be treated for tax purposes. 

Single-member and multi-member are the default tax structures. However, under certain situations, members can elect the LLC to be taxed as a corporation. There are two choices available.

C corporation (C corp)

If members elect LLC to be a C corporation it will be taxed twice. For. E.g. your c corps’ gross income and operating expenses for the year-end are $10000 and $4000 respectively. 

Your net profit is $6000 on which you will pay taxes as a corporation at a flat rate. Any dividends paid to the shareholder will be taxed again. The company will file corporation income tax returns. 

And the shareholder has to pays tax on dividends. Since the income is taxed twice it is called double taxation. 

S Corporation (S corp)

Shareholders of the S corporation report the pass-through income and losses on their personal tax return. But they are allowed to get the distribution as a salary. This means that the payroll expenses will be deducted to arrive at the taxable income which in turn will reduce their tax liability. 

However, they do have to pay payroll taxes. This way they can avoid double taxation. 

2. What are LLC tax forms?

Single-member LLC reports their business income and expenses on LLC tax form 1040 Schedule C.  

Multi-member LLC tax form includes Form 1065 containing partnership information along with other returns. The LLC has to send each member Schedule K-1 which is a summary of each owner’s share of income, credits, deductions, and losses.

To change their default structure LLC has to file Form 8832 to opt for C corporation and Form 2553 for S corp. To file taxes C corp submit Form 1120 and S corp submit Form 1120S. 

In case, LLC employs people they will be liable to pay payroll taxes. LLC has to file Forms 940 annually to report its unemployment tax liability. And Form 941 is submitted quarterly to report its withheld taxes.

Since members of the LLCs are not considered employees therefore they have to pay Self-employment taxes. To compute self-employment taxes each member has to file Schedule SE and attach it with their personal tax return.

3. What are LLC tax deadlines?

The table below shows the due date for filing the tax forms that are most relevant for LLC. Most taxes are due on the 15th day of the month of March and April in a calendar year. 

LLC tax deadlines
LLC Tax Return Forms Deadlines
Form 1040 Schedule C April 15
Form 1065 March 15
Schedule K-1 Each owner should receive it by March 15th
Form 1120 April 15th
Form 1120S Mar 15th
Form 940 Jan 31st
Form 941 April 30, July 31st, Oct 31st, and January 31st

 

There may be instances where some reason members miss the filing deadline and require an extension. They can use the tax Form 4868 (for a disregarded entity) and Form 7004 (other cases except for single-member LLCs) to request an extension for the tax deadlines. 

Figuring out LLC’s tax obligation is complex because it has lots of implications. To avoid costly mistakes, in the long run, it is recommended that you seek professional advice while setting up your business.

Ines Zemelman, EA
Founder of TFX