A Limited Liability Company (LLC) is treated by the IRS as pass-through entity. Unlike a corporation, which must file its own, separate income tax return, the owners of an LLC (“members”) report the company’s profits or losses on their personal income tax returns. Here are the default rules:
Single-Member LLC: An LLC that has only one member is treated by the IRS as if it were a sole proprietorship. So, there’s no separate LLC tax return, and the LLC as a business entity does not have to pay separate federal income taxes. Instead, the owner of the company fills out an extra schedule (Schedule C) that is attached to his or her 1040 form. All of the LLC’s profits or losses are reported on Schedule C, and profits are taxed as income to the company’s owner.
Multiple-Member LLC: An LLC with more than one member is treated by the IRS as a partnership. Again, there’s no separate tax return or federal tax due for the company itself. Instead, each member reports his or her share of the LLC’s profits or losses on their personal tax return.
The paperwork requirements for a multiple-member LLC are a little more stringent than those for a single-member LLC. Each member’s share of the year’s profits or losses is determined by the structure set out in the company’s Operating Agreement. The LLC issues Form K-1 to each member, detailing his or her respective share, which each member then reports on their personal return. In addition to issuing Form K-1 to each member, the LLC must file Form 1065 to the IRS. This Form, also required of partnerships, is informational – it gives the IRS an overview of how the LLC’s profits or losses are allocated among members, so that the IRS can be sure that each respective member’s personal tax return is accurate.
These are the default rules for income taxation of an LLC. It’s also possible for an LLC to elect to be taxed like a corporation, and this might be the better option under certain circumstances. For help determining whether or not to elect corporate taxation, you’ll want to consult with your attorney or tax professional.