Key Takeaways

  • A single-member LLC can legally hire employees, but the owner is not considered an employee.
  • Hiring employees requires obtaining an EIN and complying with federal and state employment laws.
  • Employment tax obligations apply even if the LLC is a disregarded entity.
  • Proper payroll setup, worker classification, and compliance with labor laws are critical.
  • Electing corporate tax status can open the door for the owner to receive compensation as an employee.
  • Consult a qualified attorney or accountant to determine the best structure for your business and hiring goals.

A single member LLC with employees is a business entity with a single owner that's legally recognized by the state. However, the IRS and courts have ruled that a single-member LLC cannot have an owner that is both an employee and a partner, meaning this type of entity is not legally permissible.

What Is an LLC?

A limited liability company (LLC) is a type of business that provides the flexibility of a partnership for profit allocation and operational purposes but offers the legal limited liability of a corporation. In the case of a single-member LLC, it is not a partnership, but a sole proprietorship.

LLCs are common choices for most businesses offering professional services. In some cases, such as law firms, the structure may be called a limited liability partnership (LLP) rather than an LLC.

Understanding Corporations, Partnerships, and Sole Proprietorships

LLCs are not recognized on the federal level. Rather, they are a state creation. This means that the IRS does not have special tax classifications for LLCs. Instead, they are considered a:

  • Corporation.
  • Partnership.
  • Sole proprietorship.

Multi-member LLCs can be either corporations or partnerships, while single-member LLCs are either a corporation or a sole proprietorship (also known as a disregarded entity).

For either a multi-member LLC or single-member LLC to become a corporation, they will need to file Form 8832 and choose corporation status. If a multi-member LLC does not do this, the IRS automatically classifies them as a partnership. For single-member LLCs that skip this step, they'll be designated as a disregarded entity.

Filing Taxes as a Single-Member LLC

Filing taxes in a single-member LLC that's a disregarded entity can be confusing. However, Notice 99-6 provides two options for these types of businesses:

  • Paying taxes using the employer identification number (EIN) and name of the single member.
  • Paying taxes using the EIN and name of the LLC.

Even if the owner of the LLC decides to file taxes using the LLC's name and EIN, the owner will still bear personal responsibility for accurately reporting and paying employment taxes for the LLC.

It's easy to get an EIN for your LLC. All you have to do is file Form SS-4, Application for Employer Identification Number. When filling out Form SS-4, you'll need to check box 13 if you have or expect to have employees. This guarantees you'll be issued an EIN if you don't already have one.

Keep in mind that if your single-member LLC is a disregarded entity, you don't need a business EIN when filing your federal taxes. Instead, you should pay using your personal name and EIN. If you have created a business EIN for employment tax requirements, state law requirements, or banking documents, you'll need to fill out the "Other" box on Line 8 of your federal tax return. In this box, write "Disregarded Entity — Sole Proprietorship."

If you have employment tax returns to file, you should not use your personal EIN when filing. Using your personal EIN interchangeably with your LLC's EIN could cause a lot of problems, requiring a lot of back and forth between you and the IRS to correct.

If you aren't sure which number to use, refer to Notice 99-6. This defines the rules on switching back and forth between your individual and LLC EIN.

Regardless of which option you decide on, all wages paid by your LLC must be reported on a Schedule C as employee expenses. Additionally, you'll need to submit the W-2 you received from your LLC on your personal tax return.

Hiring Employees in a Single-Member LLC

Yes, a single-member LLC can have employees, but there are important legal and tax implications to understand.

A single-member LLC is considered a disregarded entity by default for tax purposes. This means the IRS treats the LLC's income and expenses as the personal income of the owner. However, this classification does not restrict the LLC from hiring employees.

To hire employees, the LLC must:

  • Obtain an Employer Identification Number (EIN) from the IRS, even if the LLC has no other employees besides the owner.
  • Register with state and local agencies for unemployment and workers’ compensation.
  • Verify employee eligibility using Form I-9 and report new hires to the state.
  • Withhold and remit federal and state income taxes, Social Security and Medicare (FICA), and unemployment taxes (FUTA).
  • Maintain records in compliance with the Fair Labor Standards Act (FLSA) and applicable state laws.

The owner of a single-member LLC cannot be treated as an employee of the business for wage purposes unless the LLC elects to be taxed as an S corporation or C corporation.

Alternatives to Single-Member LLCs

Many LLCs want to consider themselves as employees so they can have local, state, and federal taxes withheld in their paychecks to avoid a bigger burden come tax time. However, this often leads to LLC owners incorrectly reporting compensation on a W-2 at the end of the year, while their residual profit is reported on a K-1.

The simple way to avoid this issue is to elect out of the default and switch to an S corporation election. This lets owners receive flow-through treatment for their profits.

Another slightly more complicated option is to create a tiered partnership. In this partnership, the partner will own the upper tier of the partnership. However, they will be employed by a lower tier of the partnership in which they hold no interest.

Employment Tax Responsibilities for Single-Member LLCs

Once a single-member LLC hires employees, it becomes subject to all federal and state employment tax requirements. These include:

  • Filing Form 941 (Employer's Quarterly Federal Tax Return).
  • Paying federal unemployment tax via Form 940.
  • Issuing W-2 forms to employees at year-end.
  • Submitting state unemployment tax filings, depending on state requirements.

Failure to comply with these obligations can result in penalties. Even though the LLC is disregarded for income tax purposes, it is treated as a separate entity for employment tax purposes. This distinction is crucial and often misunderstood by first-time business owners.

Should the Owner of a Single-Member LLC Be an Employee?

In a single-member LLC, the owner is typically not considered an employee and should not be issued a W-2 for salary. Instead, profits are passed through to the owner and reported on Schedule C.

However, an owner can choose to have the LLC taxed as a corporation by filing Form 8832 (for C corporation status) or Form 2553 (for S corporation status). In either case:

  • The owner may draw a reasonable salary and be classified as an employee.
  • The LLC is required to withhold payroll taxes and issue a W-2 to the owner.
  • Corporate tax treatment can offer tax planning advantages in certain situations.

This election is useful for LLC owners who want to reduce self-employment taxes or formalize payroll structures.

Best Practices for Managing Employees in a Single-Member LLC

Managing employees as a single-member LLC requires careful attention to labor laws and HR compliance. Here are some best practices:

  • Classify Workers Correctly: Understand the distinction between employees and independent contractors to avoid legal and tax penalties.
  • Use a Payroll System: Invest in a payroll provider or software to manage withholdings, tax payments, and filings.
  • Develop Employment Policies: Establish an employee handbook with clear workplace rules, benefits, and termination policies.
  • Stay Compliant with Labor Laws: Adhere to federal laws such as the FLSA, Family and Medical Leave Act (FMLA), and state-specific wage and hour rules.
  • Maintain Proper Records: Keep records of hours worked, payroll, tax filings, and employee performance for legal and operational purposes.

Hiring employees formalizes your business and expands its capacity, but it also introduces regulatory complexity. Consider legal counsel when hiring your first employee.

Frequently Asked Questions

  1. Can a single member LLC have employees?
    Yes, a single-member LLC can hire employees. However, the owner is not considered an employee unless the LLC elects corporate tax treatment.
  2. Does a single-member LLC need an EIN to hire employees?
    Yes. An EIN is required for payroll reporting and tax filing when you have employees.
  3. Can the owner of a single-member LLC be on payroll?
    Not by default. The owner is not an employee in a disregarded entity. To be on payroll, the LLC must elect to be taxed as an S or C corporation.
  4. What forms does a single-member LLC file if it has employees?
    Typical forms include Form 941 (quarterly tax), Form 940 (annual unemployment), W-2s for employees, and possibly state equivalents.
  5. What are the penalties for misclassifying employees as contractors?
    Misclassification can result in back taxes, penalties, and legal liabilities under federal and state labor laws. It's critical to assess worker status accurately.

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