LLC Partnership Tax: Everything You Need to Know
LLC partnership tax treatment can be like a conventional partnership firm (wherein the LLC only files the informational return and the owners pay the taxes) or like a corporation.3 min read
2. Forming an LLC
3. LLC Tax Treatment
4. LLC Tax Advantages
5. LLC Tax Disadvantages
6. The Benefits of Being Taxed as a Corporation
7. The Disadvantages of Being Taxed as a Corporation
LLC partnership tax treatment can be like a conventional partnership firm (wherein the LLC only files the informational return and the owners pay the taxes) or like a corporation.
What Is an LLC?
A Limited Liability Company or LLC is the latest form of business. It's a flexible business structure, especially with respect to taxes. An LLC can choose to file taxes in several different manners, reducing the overall tax liability.
An LLC is taxed depending upon:
- Whether it's a single-member LLC or a multiple-member LLC, and
- Whether it chooses to be treated as a separate business entity or the same as its owners.
The IRS does not recognize an LLC as a separate taxable entity. A multiple-member LLC can choose to pay taxes as a partnership firm or a corporation, whereas a single-member LLC can pay taxes as a sole proprietorship concern.
Forming an LLC
Like a corporation, an LLC too is formed and governed under state law. You must file the Articles of Organization along with the appropriate filing fee with the concerned department of your state. It's usually the secretary of state's office or the department of commerce that looks after LLC affairs.
Most states have a simple, standardized process in place. You either need to follow a sample form or fill up a preprinted form with your company's information.
If your LLC has multiple members, you should also prepare an operating agreement. Among others, it should include:
- Rights and responsibilities of members
- Ownership percentage of each member
- The manner in which the business would be managed
- Procedure for making major business decisions
- Procedures for adding new members
- How the LLC should be taxed
Depending upon the state where the LLC is formed, you may be required to pay registration fees every year.
LLC Tax Treatment
Unless you choose to be taxed otherwise, the IRS provides for default tax situations for an LLC:
- A single-member LLC is treated like a sole proprietorship concern, and the owner has to file Schedule C with his personal tax return.
- A multiple-member LLC is treated like a partnership firm, and it has to file an informational return in Form 1065, along with Schedule K-1 for each of the members.
In addition to these default options, an LLC can also choose to be taxed like a corporation.
LLC Tax Advantages
Tax rate: The applicable income tax rate for an LLC depends upon the total taxable income of the owner. At higher income levels, this rate may be much lower than that for a corporation. For example, for an income of $75,000, the personal tax rate is 25 percent, whereas the corporate tax rate is 34 percent.
Double taxation: Corporate income is usually subject to double taxation, since after paying income tax at the corporate level, the owners too have to pay the tax when the income is distributed in the form of dividends. There is no such double taxation in case of an LLC.
LLC Tax Disadvantages
- Irrespective of whether an LLC distributes its income, the members must pay taxes on their respective shares in it.
- LLCs do not get any exemption from property tax.
- LLC owners need to pay self-employment taxes.
The Benefits of Being Taxed as a Corporation
Ideally, you should choose to be taxed in a manner that minimizes your tax liability.
Personal tax rates vary depending upon the income slab into which you fall. The personal income tax rates for the higher brackets of income are higher than the corporate tax rates. So, if adding your LLC income to your personal income makes you fall under the higher tax category, you may want to exclude your business income from your personal taxable income.
One of the major advantages of electing your LLC to be taxed as a corporation is that you don't have to include the company's income in your personal tax return.
The Disadvantages of Being Taxed as a Corporation
One major advantage of forming an LLC is that it saves you from double taxation. When you elect for corporate taxation, you stand to lose this benefit.
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