An LLC is a very flexible business type because it can be taxed as a corporation or S corp, c corp, sole proprietorship, or partnership. How the IRS views an LLC can be confusing for business owners.
By default, a single-owner LLC is treated as a sole proprietorship and a multiple-owner LLC is treated as a partnership. But LLC owners can file a form with the IRS to change this so the LLC is treated as a C corporation or S corporation for tax purposes.
Option 1: LLC electing to be treated as a C corporation (C corp)
If your LLC has one owner:
If the LLC has only one owner, the Internal Revenue Service (IRS) will automatically treat the LLC as if it were a sole proprietorship, a disregarded entity, unless an election is made for it to be treated as a corporation. An LLC may elect corporate tax treatment using IRS Form 8832 (Form 8832 Entity Classification Election).
If your LLC has more than one owner:
If the LLC has two or more owners, the IRS will automatically treat the LLC as if it were a partnership unless an election is made for it to be treated as a corporation. An LLC may elect corporate tax treatment using IRS Form 8832 (Form 8832 Entity Classification Election).
Option 2: LLC electing to be treated as an S corporation (S corp)
An LLC may elect S Corp tax treatment by filing IRS Form 2553 (Form 2553 Election by a Small Business Corporation). However, sometimes the LLC must file both Form 8832 (see Option 1 above) and Form 2553. To determine whether your LLC can file Form 2553 alone, or whether Form 8832 must also be filed, see page 1 of the Instructions to form 2553 or talk with a CPA or LLC attorney in your state.
Tips for an LLC Taxed as an S Corp:
Electing to have your LLC taxed as an S Corporation involves a couple procedural changes in paying and filing your taxes.
1. Quarterly Filings for an LLC Taxed as an S Corp
2. Income Taxes at the End of the Year
Also, an S Corp must file different income tax forms at the end of the year (Which Forms Must I File?).
Shareholder-employees will receive two tax documents from the S-corporation at the end of the year: a W-2 wage statement (income as an employee) and a Schedule K-1 statement (income as an owner).
3. No Self-Employment Tax for an S Corp Owner-Employee
Shareholder-employees of an S-Corp (including an LLC taxed as an S Corp) do not pay Self-Employment Tax because their wages are reported on a W-2, with Social Security and Medicare taxes already withheld. By contrast, the owner of an LLC that is taxed as a partnership or sole proprietorship (not an S Corp) does pay Self-Employment Tax. Self-Employment Tax is figured at the end of the year on Schedule SE of IRS Form 1040.
4. Special deadline for new businesses seeking S corp election
If you form a new LLC, you have two months and fifteen days after you formed the LLC to file the S corp election with the IRS. For example, if you form a new LLC on June 1, you would have until August 15 to file Form 2553. However, you should file Form 2553 as soon as possible after forming an LLC to avoid cutting it close and missing the deadline.
Frequently Asked Questions
Is it necessary to change the verbiage in my LLC operating agreement to say that the LLC is being taxed as an S-Corp? I have already filed the proper from 2553 with the IRS and they accepted it. I just need to know if the LLC agreement must also be changed.
You only need to change the language of your LLC operating agreement if it is somehow in violation of the rules regarding S Corp election.
For example, if your LLC had two owners, one with 10% of the shares and the other with 90% of the shares, and they split profits 50/50, that would violate the Subchapter S rules for a business electing to be taxed as an S Corp. In this example, you would need to modify the LLC documents to give profit distributions in accordance with ownership percentages (10% and 90%).
However, you do not need to modify an LLC operating agreement to simply say that the LLC is electing to be taxed as an S Corp.
If you are not sure if your LLC operating agreement has language in violation of Subchapter S law, and you only have one owner, you could add a provision like this:
Nothwithstanding anything to the contrary in this LLC operating agreement, this LLC shall operate in compliance with U.S. tax law regarding S corporations because this company has elected to be taxed as an S corporation. To the extent any provisions in the LLC articles, bylaws, operating agreement, or member control agreement, if any, are not in compliance with tax law regarding companies electing Subchapter S treatment, those provisions are null and void.
Keep in mind that a provision like this is powerful and could have negative consequences in other areas. As usual, I recommend that anyone making legal changes like this consult with an attorney.