1. Overview of Taxes and LLCs
2. Self-Employment Income and Tax

LLC member self-employment tax must be paid by LLC owners/members. This is due to profits and losses of the company being passed through to each owner/member, who will, in turn, report the information on their tax return.

Overview of Taxes and LLCs

Single-owner LLCs

As a pass-through entity, LLCs are treated in the same manner when it comes to taxes as a sole proprietorship or partnership. It is not a separate entity like a corporation. A limited liability company does not pay federal income taxes on itself although some states do charge the LLC a tax.

As a single-owner, the Internal Revenue Service treats a one-member LLC as a sole proprietorship. This means the LLC itself is not subject to federal taxes and does not file a tax return. As the sole LLC owner, profits and losses are reported to the IRS on Schedule C and submitted with the 1040 tax return.

Some LLCs choose to leave the company's profits in the business bank account for future purchases or expenses. Regardless, you must pay taxes on the profits being rolled over to the new year.

Multi-owner LLCs

In the case of multi-owner LLCs, the IRS treats these co-owned entities as partnerships when it comes to taxes. In a co-owned LLC, the owners pay taxes based on their share of the profits when filing their personal tax return on Form 1040 along with Schedule E.

Form 1065 must be filed with the IRS for the LLC. This form is an informational return that the IRS uses to ensure each LLC member is correctly reporting their income.

The amount of each LLC owners' share of the profits and losses is called a distributive share. The breakdown of each owners' distributive share is outlined in the LLCs operating agreement. When creating the operating agreement, the members' distributive share portion is determined according to his or her percentage of interest in the company.

An example of a distributive share would be one person owning 60 percent of the company and the co-owner owning 40 percent. When the profits and losses are shared, one is entitled to 60 percent and the other 40 percent.

It is possible to divide the distributive shares in a manner that is not proportionate to each member's percentage interest in the LLC. To do so is called a "special allocation" with specific rules from the IRS that must be followed.

The IRS treats each member of the LLC as though they received their yearly distributive share. What this means to each LLC member is they are responsible for paying taxes on their distributive share regardless of whether or not the money was distributed.

Self-Employment Income and Tax

Self-employment is defined as the gross income an individual receives from a business or trade that they operate less any deductions. The owner of a business will pay self-employment tax on income whether it's earned directly or through a partnership.

Self-employment tax is for Social Security and Medicare taxes. Self-employed persons pay the entire tax amount versus an employer who pays half of these taxes and the employee pays the other half.

For income tax purposes, an LLC is generally treated as either a disregarded entity or as a partnership. If you are a member of an LLC being taxed as a disregarded entity, or a sole proprietor, or a partner in a general partnership, self-employment tax must be paid.

If self-employment tax and income tax are not estimated and quarterly tax payments are not made to the Internal Revenue Service, you may be subject to penalties and fines.

Online self-employment tax calculators are available to help with estimating taxes.

  • LLC members are not considered employees. They are self-employed business owners who are not subject to tax withholding.
  • It is the responsibility of each LLC member to pay taxes on his or her share of the profits.
  • Members must estimate their tax responsibility for the year and submit payments to the IRS and the appropriate state agency, if applicable.
  • Estimated payments are made quarterly in April, June, September, and January.
  • Legitimate business expenses can be deducted from your business income to help lower the profit amount reported to the IRS.
  • Deductible expenses include such things as advertising, promotion costs, travel, entertainment, and automobile.

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