LLCs are frequently used as a pass-through entity for small businesses. They offer limited liability protection, which is important when you have multiple members.
Many multi-member LLCs choose to be taxed as partnerships or S corporations because of their simplicity and flexibility, but what about a multi-member LLC that wants to be taxed as an S corporation?
This guide explores whether or not this is possible and discusses the advantages and disadvantages of each option.
Overview of LLCs and S corporations
The S corporation is a special type of corporation that can be owned by one person or by many people. An S corporation is taxed separately from its shareholders, and the income of the business is taxed at the corporate tax rate.
Each shareholder must pay taxes on their share of the profits on their personal Form the 1040s, but because it’s a pass-through entity (meaning there is no double taxation), shareholders can reduce their taxable income by taking any losses from their businesses as deductions.
LLCs are also pass-through entities; this means that you don’t pay taxes on your LLC’s profits at your individual level. Instead, you report them as part of your personal income when you file your 1040 each year.
However, because they’re considered partnerships under IRS rules – where partners must pay taxes on their share of partnership income – partnerships have to file Form 1065 with the IRS every year; an LLC doesn’t have to do this if it has only one member who will be reporting all its income directly on his/her own return anyway.
Advantages of an S corp
An S corporation is a pass-through entity. This means that, like a partnership or LLC, it passes all its income, losses, and deductions to its shareholders (or member/partners). The difference between an S corporation and other pass-through entities is that the tax treatment of an S corporation is determined in part by the number of shareholders who own stock in the business.
A single-member LLC can choose to be taxed as either a sole proprietorship or a disregarded entity for federal income tax purposes. That means you may pay taxes as if you were self-employed (like partners do) or as if you were not subject to self-employment taxes at all (like sole proprietors). If you choose to be taxed as an entity separate from your individual returns (i.e., disregarded), then you’re responsible for filing both federal returns: one on behalf of your business and another on behalf of yourself as owner/employee.
Disadvantages of an S corp
The disadvantages of an S corporation include:
- Reduced tax deductions because of the business entity’s pass-through tax status.
- More paperwork and record keeping, as well as more complexity in general. The business will have to file a separate tax return for each shareholder and pay employment taxes on each employee’s wages. In addition to this, there are rules regarding how much stock you can own in the company before it becomes too difficult to manage.
- Higher tax rates than other corporations (and sole proprietorships). This is due primarily because dividends paid out from an S corp are taxed at the corporate level first before being distributed as dividends to shareholders again—meaning that high earners will pay taxes twice on their income if both parties don’t take advantage of certain strategies.
- Limited ability to deduct losses against other sources of income like wages or capital gains; any losses over $50k cannot be carried forward into future years unless they’re part of a Section 179 election which only allows up to $120k total gains/losses every year (or $240k if married filing jointly).
How to elect S corp status for your multi-member LLC
How to elect S corporation status for your multi-member LLC:
- File Form 2553 with the IRS. The first step in electing S corporation status is to file IRS Form 2553, Election by a Small Business Corporation. This form must be filed within 75 days of the date you establish your LLC or at least 90 days prior to the first day of your tax year, whichever is later.
- File Form 8832 with the IRS. When you file Form 2553 with the IRS, you also need to submit Form 8832 no more than 75 days after filing Form 2553 with your LLC’s name and EIN on it so that you can designate yourself and any other owners as shareholders of an S corporation (you’ll have these numbers if they were given when setting up an LLC). You don’t have to wait until filing time though, you can submit it along with Form 2553 when submitting that initial paperwork via mail or fax (or electronically through e-filing).
- File a 1120S tax return as an S Corp starting in its first year of being taxed as one (and then continue doing so every year). Once everything has been submitted correctly following Step 2 above and approved by both state and federal governments, then all that remains is filing a 1120S tax return each year, alongside quarterly estimated taxes throughout each quarter, for however long it remains in operation under this type of business structure; remember too though that switching back out from an S Corp requires not only reapplying but also paying $800 again!
What is a multi-member LLC?
A multi-member LLC is a limited liability company with more than one owner. Members of an LLC are not separate legal entities from the business, so they can be taxed as partners or shareholders in their own right.
An S corporation is a type of tax classification that allows businesses to pass profits and losses through to their shareholders on a per-share basis, rather than showing them on the business’s own books.
LLCs can be taxed as S corps.
Can a multi-member LLC be taxed as an S corp?
Yes, it can! A multi-member LLC can be taxed as an S corporation. But like all good things in life, there are some requirements you need to meet first. In order to qualify for the S corp tax status:
- The company must have only shareholders with at least two years of experience in the business and no nonresident aliens as shareholders or partners. Nonresident aliens may still own interests in other types of corporations (like C corps) but not in S corps.
- It must be eligible for employer identification numbers (EINs).
Conclusion
In short, yes a multi-member LLC can be taxed as an S Corp. However, there are some caveats to this. First, the LLC must have one or more members who are also employees of the company.
Second, all members must receive salaries from the company; profits cannot be distributed among them personally (this means that profits would not be subject to self-employment taxes).
