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Taxation of an LLC

Questions on the taxation of an LLC come up often because an LLC does not have a specific tax structure.  Unlike a corporation or limited partnership, an LLC can choose how to be taxed based on what will be best for the company’s bottom line.  This choice needs to be made shortly (immediately) after you set up your LLC. Otherwise, the IRS will make the choice for you, which may or may not be to your advantage.  You can find the forms for this election at the link below.

Choices in the Taxation of an LLC

Multi-member LLCs that do not choose a tax structure default to being taxed as a partnership.  This format requires an EIN (Employer Identification Number).  This is obtained by going through the prompts at and being given your EIN on the spot.

Single member LLCs that neglect to make a selection default to the taxing structure of a sole proprietorship. This means the LLC will act basically as an extension of yourself.  You will need to simply file a schedule C with your personal 1040 tax form.  No EIN is needed; your social security number will function as the tax ID for your LLC.  In essence, as far as the IRS is concerned, your LLC does not exist and you are the one making all of the money.  The IRS refers to this as a “DisRegarded Entity” (DRE).

Either multi or single member LLCs may see benefits in choosing to be taxed as an S Corporation or a C Corporation.  If you elect either option for taxation of an LLC, you will need to file the appropriate tax form for that election.

If you elect to be taxed as a corporation (S or C) you will have to file the appropriate tax form making that taxation election.  Use Form 2553 for an S corporation and Form 8832 for a C corporation.

Sole proprietorships, partnerships, and S Corporations all work as pass-through entities.  The taxation of an LLC choice depends upon how you will be making money in the LLC.  If the income is going to be earned income, then you should probably choose to be taxed as an S corporation because savings on the social taxes.  If you are going to have passive income, such as rents, then a partnership is probably a good choice to have as a tax structure for you LLC.  Another factor to consider in taxation of an LLC, which won’t be discussed here, is how much do you trust your partner(s).  If the trust is high, a partnership is fine. If the trust is low, use an S corporation.

Taxation of an LLC as a partnership has the same chance of audit as an S Corporation, and both have much lower chances than a sole proprietorship (DRE) structure. This is one reason I usually recommend choosing to have a single member LLC taxed as an S Corporation.

There are several advantages to the S Corporation tax structure.  If you have earned income, it can save you on the “social taxes.” Often this means about a 13% savings in the taxes you will pay on earned income. There are fewer reasons to use a C Corporation, but one main one that could make a difference is to set up benefit plans that are not available to company owners in any other type of business structure.

No matter what structure you choose in taxation of an LLC, make sure you file a tax return EVERY YEAR for your corporation.  Even if you don’t owe any tax and haven’t done any business, you still need to file a tax return that shows zeroes.  If you don’t file, you are opening the door to an the IRS penalty of $195 per member per month for every month the taxes aren’t filed in a timely manner.  That can add up fast.

One final note: The asset protection aspects of your LLC are completely separate from what you choose as a taxing structure.  Asset protection is granted by your legal structure, and has nothing to do with how your LLC is taxed.

 If you decide to make an S corporation election, take a look at my Advanced Tax Tactics for some great ways to save taxes and increase your bottom line.  For more information on helps available to set up and maintain your LLC effectively, please check out our product packages at

Lee R. Phillips

President, LegaLees Corp.

  1. I am expecting to earn a pretty good amount of passive income monthly soon and I was told there could be advatanges to setting up a Charity Foundation to have these funds go to so just seeking an opinion on this vs a conventional LLC. In the long run this passive money will be main source of income replacing regular W2 job.

    Thank You

    • Mark,
      The problem with setting up a charity is that you have actually intend to give it to charity. If you are planning on using the money for yourself and then passing it on to family, that is not a charity. If your intent is to avoid paying taxes, the IRS can void anything you do. If your intent is to actually give it to charity, then you would be ok.

  2. You will probably be better off using a conventional LLC. Charitable foundations are meant for charitable purposes. If you are going to give the money away to be charitable, you are fine with this type of foundation and you will have a good tax benefit. However, there are other ways you can hold the money that will provide both asset protection and tax savings. I would recommend that you diversify with at least two or three vehicles.

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