Business Startup

Can LLC Members Pay Themselves a Salary?

As we’ve discussed in previous posts, the limited liability company (LLC) entity offers a ton of flexibility when organizing the management and economic structure of the company. Because of this flexibility, the LLC has quickly become the most popular entity to form when seeking limited liability protection for new businesses. One question that often crops up is, “Can I pay myself a salary as the owner of a LLC?”

Can LLC Members Pay Themselves a Salary?

LLC Member Salary
The short answer is: It depends on how the LLC is taxed.

LLC Taxed as a Partnership

For tax purposes, a LLC is by default a pass-through entity—i.e. any money that comes into the business will “pass-through” to the individual members of the company regardless of whether they receive distributions, and the members are required to report their share of any income on their individual tax returns. For example, if the LLC has $100K in net profit and has two Members who each own 50% of the business, then each Member will owe tax on $50K regardless of whether or not the LLC distributes these profits to the Members. In this situation, the LLC is being taxed as a partnership and Members are not allowed to pay themselves a salary; instead, the LLC can distribute profits to Members.

LLC Taxed as an S-Corp

An S corporation refers to the tax treatment of the entity. That is, an S corporation is not a type of entity, but a type of tax status—specifically subchapter S of the U.S. Tax Code governs the tax treatment of entities that elect to be taxed as an S Corporation. When you form an entity, whether it’s a corporation or LLC, you can elect for the entity to be taxed as an S corporation.

By default, a LLC is taxed as a pass through entity. In other words, once you create a LLC it will be taxed as a pass through entity unless you elect otherwise by filing a form with the IRS. By filing a simple form with the IRS, you can elect for your entity to become a pass-through entity—a “pass through entity” means that any income (or loss) will pass through the entity and be allocated to the owners of the business as individual income (or loss). If a LLC elects to be taxed as an S corporation, the owners can be employees of the LLC and are allowed to take reasonable salaries subject to standard federal and state withholding taxes. Depending on the individual financial circumstances of each owner, electing to be an employee versus strictly an owner (and having to pay self-employment taxes) can have a significant tax impact.

LLC Taxed as a C-Corp

Corporations are also taxed quite differently than partnerships. Corporations are subject to double taxation—i.e. money that comes into the corporation is taxed as corporate income, and the same money is taxed again when it is distributed to shareholders as dividends. When you form a LLC, you can also elect to be taxed as a C-Corporation and the owners of a C-Corp can be employees and are allowed to take salaries. Depending on the individual financial circumstances of each owner, electing to be an employee versus strictly an owner (and having to pay self-employment taxes) can have a significant tax impact. You should always consult with an accountant about your personal financial situation to see which option will best minimize your tax liability.

It’s important to note that there are certain situations where the corporate entity makes more sense than a LLC and where being taxed as a C corporation is a better route than being taxed as an S corporation. Check out our previous post discussing why investors prefer to invest in corporations versus LLCs. You should also discuss your tax election with your CPA to ensure you are properly and efficiently meeting your personal and professional tax obligations.

If you have any questions about forming your company or deciding on the best entity structure for your new venture, please contact us to schedule your free consultation.

Photo: | Flickr

        


Collin Roberts

When he's not in the office, Collin enjoys IPAs and burgers at Latona Pub.


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