Limited Liability Companies (LLC) are one of the most common business entities formed due to the personal liability protection it provides. However, one of the major advantages of forming an LLC are the tax benefits.
This hybrid entity provides owners more flexibility than any other business structure. You can choose to be taxed as a sole proprietor, a partnership, an S corporation or a C corporation.
Each of these types require different tax forms and determine how income is reported. For more on LLC taxes, keep reading!
How are Limited Liability Companies Taxed?
LLCs are taxed differently depending on the type you choose to form – a single-member or multi-member LLC.
As a single-member LLC, the business is viewed as a sole proprietorship and a tax return is not filed on behalf of the business. Instead, you must report all the profits and losses when filing personal tax returns. This process is known as “pass-through” and offers numerous tax benefits including the choice of how they want to be taxed and business deductions.
LLCs are routinely taxed as a partnership or sole proprietorship. A multi-member LLC is known as a partnership. This means each member must report distributive shares and file a Form 1065.
Depending on how you choose to set up your LLC, and the number of members, the IRS will view your business as either a sole proprietorship or partnership.
Single Owner LLCs
A single owner LLC is a separate business entity, meaning the owners personal assets are protected from lawsuits against the business.
The IRS refers to single owner LLCs as a disregarded entity. This means the IRS disregards the business for tax purposes. Instead, single-member LLCs pay income taxes by filing a Schedule C on their personal income tax returns.
Multi owner LLCs
Forming an LLC with more than one owner, or member, means the IRS viewed the business as a partnership. For tax purposes, each member files a Schedule E form and pays taxes on their share of the profits on their personal tax returns.
Some states require LLCs to pay a franchise tax, or a privilege tax. Depending on the state, this is a flat amount paid yearly or a percentage of the business. Many states also have taxes precisely for multi-owner LLCs that exercise a partnership tax on LLCs that reach a specific level of annual sales.
One of the many reasons business owners choose to form an LLC is the flexibility to elect taxation. Remember, the IRS automatically classifies an LLC as either a sole proprietor (single member) or a partnership (multi-member). However, LLCs also have the option to consider corporate taxation.
When high-income owners are participating, a business will generally elect corporate taxation. Electing corporate taxation means you have two options for being taxed – either as a C-corp or S-corp. Choosing to be taxed as a corporation does not change how you run business, it only affects how much taxes you pay and when you pay them.
What is Tax-Deductible for an LLC?
A benefit to operating as an LLC are the numerous tax-deductible expenses that you can deduct. Below is a list of the most common expenses that LLCs can deduct, plus a few lesser-known deductions to consider.
Business Expenses – The list ranges from operating expenses and utilities to repairs and office supplies. In your first year of business, you can deduct up to $5,000 for start-up costs. If start-up costs exceed this amount, you can deduct in intervals over the next 15 years.
Equipment – Any equipment used specifically for business is tax deductible for LLCs. This also includes things like computer software.
Insurance – Business insurances such as fire, theft, or flood insurance, employee medical benefits, liability insurance, and unemployment insurance are all tax-deductible for LLCs.
Professional Fees – Utilizing the help of professionals such as a lawyer or accountant is also considered a tax-deductible expense.
Travel – Airfare, lodging, meals, and transportation are all tax-deductible if you can prove it was for business purposes. Shipping and tips are also considered tax-deductible.
Auto Expenses – If you use your vehicle for business, you can deduct a percentage of your monthly payment, upkeep, maintenance, and gas.
Interest – If you take out a business or personal loan or use credit cards to help get your business off the ground, the interest you pay is tax-deductible.
Retirement Contributions – Sums that you pay into business owners and employee retirement accounts are considered a deduction for taxes.
Childcare – If you have young children who depend on you, up to $3,000 per person can be claimed in daycare expenses.
Charity – Your LLC can contribute to charity and claim deductions for the contributions you make.
Other LLC Taxes
The taxes you’ll pay as a business is precisely connected to the type of business entity you choose to form. An LLC structure is registered with the state in which you form the business and may be responsible for additional taxation.
State taxes are determined by the state in which you formed the LLC. Many states tax LLCs as a percentage or flat fee. This is based on the overall income level.
LLC members are not considered employees. However, Medicare and social security taxes are still required. As an LLC, you pay these directly to the IRS at a flat rate of 15.3%. This percentage is broken down as 2.9% Medicare tax on all earnings, 0.9% Medicare surtax on earnings exceeding $200,000, and 12.4% social security tax on earnings up to $137,700.
How LLCs Pay State income tax
The tax forms you’ll need to file for your LLC taxes depend on the type of LLC (single member or multi-member), tax status (pass-through or corporate), and if you have employees. Below are some forms to be aware of when paying LLC taxes.
- A Schedule C tax form is required for all single-member LLCs to report business income.
- Form 1065 is required from multi-member LLCs for informational purposes.
- If you choose to file as a C-corporation, Form 8832 is required.
- S-Corporations are required to file Form 2253.
- There are also several forms to file if you have employees, such as unemployment taxes and income taxes.
It’s important to remember that by default, LLCs do not pay income taxes. Only the members of LLCs pay taxes unless you elect for your business to file as a corporation for tax purposes.