LLC Tax Rules

The IRS classifies LLCs based on the number of owners (called members) or on a tax classification election made by the LLC. This flexibility is one reason why so many entrepreneurs choose this structure. Here’s how the main classifications work:

• Single-Member LLC: If your LLC has only one owner, the IRS treats it as a disregarded entity. You’ll report all business income and expenses on Schedule C of your personal Form 1040, and pay both income and self-employment taxes on the net profit.
• Partnership: When your LLC has two or more members, the IRS treats it as a partnership unless you elect otherwise. The LLC must file Form 1065, and each member receives a Schedule K-1 showing their share of income or losses. Then, each member reports that income on their individual return.
• S Corporation: If you want to reduce your self-employment taxes, you can elect S corp status. The LLC pays you a reasonable salary (subject to payroll taxes) and allows you to take the remaining profits as distributions that are not subject to self-employment tax. The LLC files Form 1120-S and issues Schedule K-1s to each member.
• C Corporation: Alternatively, an LLC can elect C corp treatment. The company pays taxes as a separate entity using Form 1120. While this creates double taxation (once at the corporate level and again on dividends), it may benefit businesses planning to reinvest profits or attract investors.

Each classification has pros and cons. In the end, the best choice depends on your income level, business goals, and long-term strategy.