As you determine the legal structure for your business, one of the most important implications is taxation. Simply put, the amount of money you owe to the IRS will be directly affected by the legal structure you choose for your business. If you’re planning on starting an LLC in Florida, or for that matter anywhere else in the country, you’ll want to have a clear understanding of how this type of business entity is taxed.
Here’s a quick guide to LLC taxation.
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LLC Taxes 101
One of the primary reasons why people gravitate toward the LLC structure while incorporating is that it provides tax flexibility.
LLC business owners can choose to be taxed on a “pass-through” basis or to pay corporate tax rates. Pass-through is the default, but you can always opt into corporate taxation if you so desire.
What does it mean for an LLC to be taxed on a pass-through basis?
Basically, it means that the business itself doesn’t pay any taxes on business income.
Instead, the tax liabilities “pass-through” to the LLC’s members, who pay taxes on their personal shares of the LLC’s profits.
It’s also important to note that LLC members must pay self-employment taxes.
And, depending on what the business sells, there may be other tax burdens imposed at the federal or state level.
These taxes can include payroll taxes, sales taxes, and more.
LLC Income Taxes
The vast majority of LLCs choose to be taxed on a pass-through basis, which means that individual members pay taxes on their share of the profits.
However, the specifics can vary a bit depending on whether it’s a single-member or multi-member LLC.
In other words, LLC income taxes are affected by the number of owners in the company.
Income Taxes For Single-Member LLCs
For single-member LLCs (e.g., LLCs with just one owner), the IRS’s default position is to treat the company as a disregarded entity.
This means that the LLC does not need to file a separate income tax return in order to report its income or expenses.
Instead, income and expenses are simply reflected on the members’ tax returns.
Another way of putting this is that, if you are the sole member of your LLC, you’ll handle taxes just like you would if your business was structured as a Sole Proprietorship.
That is, you’ll report business income and expenses on your Form 1040, Schedule C.
If you deduct business expenses and find that your business has still been profitable that year, you’ll pay income tax on that profit at your personal income tax rate.
Generally speaking, the same principles hold true at the local and state levels, though there are some states that levy additional taxes.
A good example is California, which charges an annual LLC tax as well as additional taxes based on the LLC’s expenses.
Income Taxes For Multi-Member LLCs
Taxation for multi-member LLCs is handled on a pass-through basis, which means, again, that the business does not file its own income tax return.
Instead, the members of the LLC report their stake in any profits or losses.
Each member then pays taxes based on their portion of the business’ income.
As such, the LLC tax rate depends on each individual member’s personal tax bracket.
For example, say you have an LLC with two members, and they have a 50-50 stake in the company.
Each owner would be responsible for paying income tax on exactly half of the company’s profits.
However, their tax rate could potentially be different, depending on the individual tax bracket each owner is in.
Again, pass-through taxation continues at the local and state level, with a few notable places that charge additional LLC taxes each year. (Here again, California is the most significant example.)
What If You Choose Corporate Tax Status?
Thus far this article has focused on default tax statuses, but there is always the option for members of an LLC to opt into corporate tax status. What would this mean, exactly?
First and foremost, note that the members of the LLC must hold a vote to make this change.
The terms of the vote must be outlined in the operating agreement of the LLC.
The members of the LLC may decide to be taxed as a C-corporation, which would mean filing Form 8832 with the IRS each year.
This is in addition to any specific forms required by certain states.
If you choose to have your LLC taxed as a C-corporation, it would mean being taxed at the corporate tax rate, currently set to 21 percent.
Alternatively, the LLC could choose to be taxed as an S-corporation.
This would basically mean pass-through taxation, with just a few distinctions with regard to how salaries and business distributions are taxed.
Keep in mind that switching to corporate tax status only affects how your business is treated by the IRS. It does not affect any other legal dimension of the IRS, such as its personal liability protections.
LLCs Offer Tax Flexibility
The bottom line: The LLC structure offers many benefits, foremost among them the ability for members to choose how they wish to be taxed. Make sure you do your due diligence, understanding the different options before you establish your LLC’s tax status.
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