IRS Single Member LLC: Everything You Need to Know
Forming an IRS Single Member LLC is a much easier process than many people imagine, particularly if you follow the correct steps3 min read
Forming an IRS Single Member LLC is a much easier process than many people imagine, particularly if you follow the correct steps. Although limited liability companies (LLCs) are very common, the IRS has neglected to create a category specifically for this entity type, instead choosing to adapt existing categories to accommodate LLCs.
LLCs have the ability to select their tax classification. The main advantage of an LLC is that company owners can use their individual tax returns to report losses and profits of the company. The IRS automatically classifies LLCs as sole proprietorships if they have a single member and partnerships if the company has multiple members. If an LLC has more than one owner, the members can decide whether the business should be taxed as a corporation or a partnership.
To be treated as a corporation, a single-member LLC will need to file Form 8832 with the IRS and choose C Corporation classification or submit Form 2553 and select the S Corporation classification. The LLC will no longer be treated as a disregarded entity after filing either of these forms. Choosing not to file these forms means your LLC will be classified as a disregarded entity and will be subject to sole proprietorship taxation.
LLC Electing Not to be a Corporation
If an LLC chooses not to be classified as a corporation, it will be taxed as a disregarded entity. This designation leads to some confusion because while the LLC will now be taxed like a sole proprietorship, the IRS does not consider sole proprietorships to be disregarded entities because the owner and the business are not separated in a sole proprietorship.
When a sole proprietorship files its taxes, it will use the Schedule C form, and all losses and profits included on this form will also be reported on the business owner's individual tax return. LLCs that choose to be treated as a sole proprietorship for tax purposes will also use the Schedule C form.
What Is a Disregarded Entity?
A disregarded entity is distinct from its owner but chooses to ignore this separation for tax purposes. Another name for a disregarded entity is a pass-through entity.
In most cases, business owners will be treated separately from their business. This is beneficial to the owner because he will not be personally liable for lawsuits and debts against his business.
Some business entities that are legally separate from their owners include:
- Limited Liability Companies
Typically, corporations are not pass-through entities, as corporate profits will be taxed before these profits are allocated to shareholders. These entities will use distinct tax forms and will be separately taxed from the business owner.
Sole proprietorships are the only type of business entity that is not separate from the company owner. The Schedule C form used by sole proprietorships is actually included with the individual tax form of the business owner.
By default, the Internal Revenue Code considers all business entities to be corporations. Business entities that are not corporations are considered eligible entities, which means they can choose their own tax classification. Under the Internal Revenue Code, eligible entities that have only one owner can either choose to be a disregarded entity or can choose association classification. The reason sole proprietorships cannot be disregarded entities is because the business owner and their business are not separate.
Which Business Type is a Disregarded Entity?
Single-member LLCs are the only business type that can be disregarded entities. Usually, an LLC will be treated as a partnership for tax purposes, which means the company's tax return would be separate from its members' personal returns. However, in a single-member LLC, business and personal taxes are reported using the same form.
There is no form that needs to be filed in order for your single-member LLC to be treated as a disregarded entity.
Liability Issues for a Disregarded Entity
While disregarded entities are treated the same as the business owner when it comes to taxes, they are distinct for purposes of liability. For instance, when applying for an Employer Identification Number (EIN), a single-member LLC could use the designation for a disregarded entity.
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