LLC Tax Filing Rules

Understanding how to do LLC taxes is important to make sure you're following legal regulations. When you operate a business as an LLC, you have additional options and flexibility in determining how business earnings will be taxed.

The decision you make will determine the rules for tax filing to which your business will be subject. LLCs don't have their own specific set of tax rules; instead, LLCs can choose tax rules that apply to:

  • Partnerships
  • Sole proprietors
  • Corporations

The default IRS designation for an LLC is a partnership for purposes related to income taxes. However, this default setup requires the business owner to pay taxes on business profits as a sole proprietor. Both sole proprietorships and partnerships have unique rules for filing taxes.

Corporation Taxation Filing Requirements

Those who prefer corporation tax rules can elect for treatment as a corporation by the IRS. To elect for this taxation, you must file Form 8832 with the IRS. Upon making the change, the LLC designation must remain the same for five years.

Partnership Filing Requirements

If an LLC elects for default taxation as a partnership, the members (owners) are not required to pay taxes on business earnings. However, they are responsible to prepare Form 1065, which is the annual partnership tax return form, and file it with the IRS every year. This return form provides information to the IRS; all credits, deductions, and income from the business are reported on individual tax returns by the members. Each member's shares of the credits, income, and deductions will be reported on Schedule K-1 at the end of every year.

For example, if you and another person decide to start a business and it earns $150,000 in a year, you would each receive the Schedule K-1 form that would include $75,000 of earnings reported. If the business had $70,000 of deductible business-related expenses, each of your Schedule K-1 forms would also outline $35,000 of deductions. All numbers reported on the Schedule K-1 must be reported on both of your personal income tax returns. In the example, each business owner's personal taxable income would be increased by $35,000.

Corporate Filing Requirements

By following the filing requirements to elect for taxation as a corporation, the IRS will then treat your company as a separate entity that is responsible to pay its own taxes. By electing for this type of taxation, the corporation becomes responsible to report all deductions and income on Form 1120. Additionally, the corporation must pay all required income taxes on the reported income and deductions by the tax deadline.

If an LLC doesn't file or pay its tax return, the members aren't held personally liable. However, corporations are double taxed on business earnings, which is a drawback of this taxation election. The first taxation happens when the LLC files its corporate tax return. The second taxation occurs when owners receive dividends from business income. When owners receive the dividends, they must report the amounts on their personal income tax returns as taxable income, and therefore, must pay taxes on what they received.

Sole Proprietor Filing Requirements

Another option for LLC taxation is as a sole proprietorship. When this option is elected, the IRS will no longer regard the business entity as separate and distinct from the owner. By electing for taxation as a sole proprietorship, the limited personal liability is removed from the business, leaving the owner responsible for tax filings and payments. The business owner must complete and include a Schedule C attachment with their personal tax return each year.

Only the deductions and income relating to business activity will be reported on the Schedule C attachment. If this form includes a calculated profit, that amount should be reported as income on your personal tax return, Form 1040.

How LLCs are Taxed

An LLC is taxed as a pass-through business entity, not as a separate business entity. Other examples of pass-through entities include sole proprietorships and partnerships. All business losses and profits pass through the company to the LLC members. The members then must report the information about losses and profits on their personal annual tax returns. The LLC isn't responsible to pay federal income taxes. However, some states charge taxes on LLCs.

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