Your choice of business entity can affect your taxes, your personal liability, and other issues. A limited liability company (LLC) is somewhat of a hybrid entity in that it can be structured to resemble a corporation for owner liability purposes and a partnership for federal tax purposes. This duality may provide you with the best of both worlds.
Like the shareholders of a corporation, the owners of an LLC (called “members” rather than shareholders or partners) generally aren’t liable for business debts except to the extent of their investment. Thus, they can operate the business with the security of knowing that their personal assets are protected from the entity’s creditors. This protection is far greater than that afforded by partnerships. In a partnership, the general partners are personally liable for the debts of the business. Even limited partners, if they actively participate in managing the business, can have personal liability.
Check-the-Box Rules
LLC owners can elect under the check-the-box rules to have the choice of business entity treated as a partnership for federal tax purposes. This can provide a number of important benefits to them. For example, partnership earnings aren’t subject to an entity-level tax. Instead, they “flow-through” to the owners, in proportion to the owners’ respective interests in profits, are reported on the owners’ individual returns, and are taxed only once. To the extent the income passed through to you is qualified business income, you’ll be eligible to take the Section 199A pass-through deduction, subject to various limitations.
In addition, since you’re actively managing the business, you can deduct on your individual tax return your ratable shares of any losses the business generates. This, in effect, allows you to shelter other income that you (and your spouse, if you’re married) may have.
An LLC that’s taxable as a partnership can provide special allocations of tax benefits to specific partners. This can be an important reason for using an LLC over an S corporation (a form of business that provides tax treatment that’s similar to a partnership). Another reason for using an LLC over an S corporation is that LLCs aren’t subject to the restrictions the federal tax code imposes on S corporations regarding the number of owners and the types of ownership interests that may be issued.
Explore the Options
In summary, an LLC would give you corporate-like protection from creditors while providing you with the benefits of taxation as a partnership. Be aware that the LLC structure is allowed by state statute and states may use different regulations. Contact our Business Tax Specialists to discuss in more detail how your choice of business entity and the use of an LLC might benefit you and the other owners.