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How do I pay myself from my LLC?

If you're an LLC owner, you have a few options for paying yourself from your business. In this article we cover how to pay yourself from your LLC according to each tax status your business may elect.

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One of the most important decisions a business owner can make is how they would like to pay themselves. Figuring out how to pay yourself as an LLC owner can be complicated, given the range of business structures and consequent tax statuses an LLC can elect. While a single-member LLC is taxed as a sole proprietorship by default, it can also elect to be taxed as a corporation: either an S or C-corp. Similarly, if your LLC has two or more owners, it will be taxed as a partnership, but can elect another tax status. 

While most LLC owners keep their business’s default tax status, you may be curious about whether electing another tax status would confer you more tax benefits, and, consequently, greater earnings. Whether another tax classification would benefit your business depends on the number of owners, your business’s profits, and the way in which you would like to grow your business. 

In this article, we’ll go over how to pay yourself from your LLC according to each tax status your LLC may elect, whether it is a: Sole proprietorship, partnership, S Corporation, or C Corporation. We will also cover when it makes sense to elect any one of these tax statuses.

So, read on to learn how to pay yourself from your LLC according to your tax status.

How to pay yourself from a single-member LLC

If you’re the owner of a single-member LLC, meaning you are the only owner and operator of your business in the eyes of the IRS, you are automatically considered a disregarded entity. In other words, you and your business are considered a single business entity. So, the money you make from your business can go straight into your personal account in what is known as an “owner’s draw” with no need to keep your income separate from your personal finances1

Note, however, that you are able to keep a separate business bank account for your company’s finances. It is recommended to separate your personal and business finances to help you out come tax season. Nonetheless, during tax time you would file your taxes the same way as a sole proprietor. Thus, you would only be required to file a personal income tax return at the end of the year. 

How to pay yourself from a multi-member LLC

If you operate a multi-member LLC, the IRS will consider you a partnership for tax purposes, which is also known as a pass-through entity. Just like with a single-member LLC, this means that your business does not pay taxes on its own. In this case, though, each individual member pays a share of the taxes on the business’s income on their personal tax return.

Each member will pay taxes in proportion to their ownership stake in the LLC, which should be laid out in the company’s operating agreement. Since the business itself does not pay taxes, each member will pay taxes in accordance with their individual tax bracket. 

Consider, for example, a multi-member LLC where two people share the ownership 50-50. In this case, each owner will pay taxes on half of the business’s profits, and can claim half of the tax deductions and credits that the business qualifies for, in addition to writing off half of the losses. 

Lastly, during tax season, all members of an LLC partnership need to file special IRS forms, including form 1605 which outlines to the IRS that their tax return has been filed correctly. In addition, members will also have to file a schedule K-1 along with their individual tax returns. 

Paying yourself from an S Corp LLC

An LLC can also elect to be taxed as an S Corporation by filing Form 2553 with the IRS. Like a default single-member LLC or a partnership, an S Corporation is a pass-through entity. There are, however, some differences with how salaries and distributions are treated by the IRS. You can file your taxes as an S-corp using Form 1120S, U.S. Income Tax Return for an S-corporation, found on the IRS’s website.

When is it best to elect S Corp tax status?

The greatest advantage of electing S Corporation status is that it offers a way to save on Social Security and Medicare taxes while still, like the options listed above, avoiding double taxation. Typically, income from an LLC passes through to its owners, who pay self-employment taxes on it. This self-employment tax is 15.3%, with 12.4% coming from Social Security and 2.9% from Medicare.

When you elect to be taxed as a corporation, your business’s income is treated as dividends rather than earnings. As such, you do not have to pay self-employment tax on those dividends. Note, however, that you can still let some of your profits pass through to your personal tax return as earnings— only this percentage of your profits will be subject to self-employment taxes. Opting for this tax status can allow you to save significantly on your taxes.

Paying yourself from a C Corp LLC

A C Corporation has a similar management structure to that of an S Corporation, wherein its owners are classified as shareholders, meaning multiple people can own percentages of the business. C Corporations are, however, subject to double taxation, while S Corporations are not. C-corps first pay taxes on their corporate income, and then individual shareholders also pay tax on their distributions. So, the company’s earnings are essentially taxed twice.

When is it best to elect C Corp tax status?

There are certain benefits to choosing C-corp status, including no restrictions on the number of shareholders, no restrictions on which countries the shareholders are from, and the ability to raise equity more easily than with an S Corporation. C-corps can also issue more than one type of stock and are subject to a lower maximum tax rate as compared to that of S-corps, partnerships and sole proprietorships. 

For most small business owners, the management structure and double taxation of a C Corporation does not make sense for their business. If your company only has one or two owners, and is not making a high net income, you probably will not benefit the advantages of a C-corp, which largely center around its desirability for shareholders.

Paying yourself from a partnership LLC

When an LLC with multiple members is categorized as a partnership, it is subject to pass-through taxation. Just like with a sole proprietorship or an S Corporation, the earnings the business makes pass through to its owners, who pay personal income taxes on it. Each member will be paid a percentage of the business’s earnings based on the conditions laid out in the operating agreement.

When is it best to elect partnership tax status?

If your LLC has more than one owner, it will automatically be classified as a partnership by the IRS. A partnership is taxed the same way as a sole proprietorship (the default tax classification for a single-member LLC) and benefits from pass-through taxation, you may wish to keep this tax status.

However, if you think your business would benefit from the advantages of a corporate structure, you may elect to change tax status from a partnership to an S-corp or C-corp. An S-corp will offer similar taxation with certain benefits, while a C-corp will be subject to double taxation.

Final thoughts 

As the owner of an LLC, you have the ultimate flexibility in how you pay yourself. To figure out which option is right for you, consider how you wish to pay your taxes each year, and how you wish to grow your small business in the future. If you see your business raising equity and appointing a board of directors, with its own shareholders instead of owners, a corporate structure would make sense. If you plan on keeping the business smaller, with only one or two owners, the default LLC structure for a single- or multi-member LLC would be right for you.

Remember, filing your taxes incorrectly with the IRS is something to be avoided at all costs. It is always in your best interests to consult with a tax professional who understands the advantages and disadvantages of each tax and pay classification based on what your business goals are, and go from there.

Frequently asked questions

If you have further questions about how to pay yourself from your LLC, you can read through some of our most frequently asked questions for more information.

What is the best way to pay yourself from an LLC?

The best way to pay yourself from an LLC will depend on how many owners your business has and which tax classification you wish to file each year. Regardless, make sure that you always have a paper trail when moving money from one account to another. Having a record of transactions is key to ensuring that you don’t run into trouble with the IRS later down the line. Always opt for checks and/or online transfers for payments rather than paying cash for business expenses, as cash can be difficult to keep track of.

What is the most tax-efficient way to pay yourself?

Generally speaking, the most tax-efficient method of paying yourself from your LLC as a business owner is to collect a combination of dividends and a salary, like in an S Corporation. By doing so, you can deduct your taken salary from the income of your business and only be required to pay taxes on that portion. If you avoid giving yourself a salary, then you will be required to pay tax on your business profits which may be higher. 

Can the owner of an LLC pay themselves through payroll?

If you operate a single-member LLC, then you as the owner will make all profits with no need to pay yourself as an employee. This is because, for tax purposes, you and your business are considered a singular entity. Similarly, if you have a partnership LLC, you can do the same by drawing money from the business while being taxed only on the money that you draw from the profits. If you have filed for an S or C-corp tax classification, members of your LLC will be paid as employees through payroll. Thus, they will pay self-employment tax. 

What is the difference between LLC distributions and a salary?

LLC distributions are money that is used to pay business owners their earnings from their company. This is done by allocating a portion of the profits and investors’ money. These distributions will not influence the profits of your business or the tax payments your business will be required to pay. A salary is also paid to employees of your company. As a result, this money is taken out of business profits and is subject to payroll tax. This is in contrast to distributions which are only subject to the owner’s income tax each year. 

How do I pay myself as an independent contractor?

As an independent contractor, here is how you might get paid:

1. If you have an LLC with other members, you can technically hire yourself for services that are needed by your business instead of outsourcing talent from another business or individual.  

2. If you have an LLC small business and wish to “hire” yourself as an independent contractor for your LLC, then you will need to file the IRS form W-9. Once this is filed, your LLC will also need to file a 1099-MISC form with the IRS. Just keep in mind that, as an independent contractor, you will need to pay self-employment tax on the profits you earn from the business. In addition, you will not receive as many tax benefits as you would with other tax classifications.

References

  1. The Balance: https://www.thebalance.com/how-to-pay-yourself-as-a-business-owner-5222559 
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