Pass Through LLC: Everything You Need to Know
Having a pass-through LLC can be a great taxation benefit for a business owner.3 min read
Having a pass-through LLC can be a great taxation benefit for a business owner. When it comes to taxes, it is fundamentally crucial that you are fully aware of all that pass-through taxation entails.
LLC Member Taxation
A limited liability company is not considered separate with regard to taxes like a corporation:
· The IRS refers to an LLC as a pass-through entity.
· This is similar to a partnership or sole proprietorship. Any profit and loss of the limited liability company will pass through the business to the members of the LLC, who then report that information on their own tax returns.
· The limited liability company does not pay any federal income taxes.
· There are some states that will require an annual tax on LLCs.
The IRS will treat your limited liability company as a sole proprietorship or a partnership. This will depend on how many members are in your LLC. Single-member LLCs are treated as sole proprietorships by the IRS for tax purposes. This simply means that the limited liability company will not pay any taxes and will not have to file any returns with the IRS.
Every LLC member will have to make estimated tax payments to the IRS on a quarterly basis. If you are the only owner of your LLC, you will have to report any profit and loss of the business on a Schedule C and provide it with your tax return.
The IRS will treat any LLCs that are owned by more than one member as a partnership for taxation purposes. Similar to single-member LLCs, a co-owned LLC will not pay any taxes on any business income. The owners will each pay taxes on their share of any profits on their own tax returns. Every LLC member’s share of profit and loss will have to be outlined in the LLC operating agreement. These are referred to as distributive shares.
When you divide all profit and loss such that it is not proportionate to each member’s percentage of interest, it is referred to as a special allocation. No matter how the distributive shares are divided, the IRS we’ll treat every LLC member the same if the member receives their whole distributive share every year. This simply means that every LLC member will have to pay their taxes on the whole share, no matter if the LLC divides all of the money among the members.
All members of an LLC are responsible for any income tax on their share of money earned. Although a co-owned LLC will not pay its own income tax, it will need to file a Form 1065 with the IRS.
This form is the same one that a partnership will file. It is an informational return that allows the IRS to review and ensure that all LLC members are recording their income. An LLC should also provide every member with a schedule K–1. This will outline every member share of the profits and losses of an LLC. Members should report this information on their own tax return with a Schedule E attached.
C corporations file federal form 1120 and are required to pay any taxes that are due. The shareholders also pay tax at their personal income tax rates for any dividends and distributions from the company. An LLC can opt to be treated like a corporation for taxation by filing an IRS form 8832 and marking the corporate tax treatment box.
Beginning in 2018, all C corporations are to be taxed at a 21% rate on all profits. This is lower than the three top individual tax rates. This can range from 32% to 37% and would otherwise apply to limited liability company owners at all income levels. Owners of an LLC can save cash on their taxes when opting to be treated like a C corporation.
The problem arises when any savings appear to be elusive, since the money distributed from C corporations to the owners is typically double taxed. The 21% corporate tax has to be paid. The shareholders then have to pay income tax on their personal income tax return on their dividends at the rate of capital gains. These rates can range up to 23.8%.
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