As an owner of a limited liability company, known as an LLC, you'll generally pay yourself through an owner's draw. This method of payment essentially transfers a portion of the business's cash reserves to you for personal use. For multi-member LLCs, these draws are divided among the partners.
The rules are different if the LLC is taxed as a corporation, though: In this case, you also have to take a salary that meets certain requirements in addition to any distributions received.
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What is an LLC?
An LLC is a hybrid business structure that combines some of the most attractive features of corporations and sole proprietorships. Like corporations, all types of LLCs provide limited protection against personal liability. In general, business profits and losses are reported on your personal income tax return rather than a business tax return, and no annual meetings are required.
Specific laws vary by state, but in general, LLC owners are called members. There can be as many members in your business as you like. Types of LLCs include:
Single-member LLCs. These have only one member. Unless otherwise requested, the Internal Revenue Service views single-member LLCs as sole proprietorships for tax purposes.
Multi-member LLCs. These have more than one member. The IRS treats these as partnerships for tax purposes, unless otherwise requested.
Corporate LLCs.These LLCs elect to be taxed as corporations. For a business to be classified as a corporate LLC, you need to file Form 8832, Entity Classification Election, with the IRS.
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How do I pay myself if I own an LLC?
How you pay yourself depends on whether the LLC is functioning as a sole proprietorship, a partnership or a corporation.
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Single-member LLCs: Owner's draw
The IRS views single-member LLCs as “disregarded entities,” meaning that for tax purposes, the owner and the business are one and the same. Specifically, your LLC profits are considered personal income rather than business income, just like a sole proprietorship.
Rather than taking a conventional salary, single-member LLC owners pay themselves through what’s known as an owner’s draw. The amount and frequency of these draws is up to you, but it's ideal to leave enough funds in the business account to operate and grow the LLC.
Multi-member LLCs: Owner's draws and guaranteed payments
Multi-member LLCs, classified as partnerships, are treated as “pass-through entities” by the IRS. This means that although business income must be officially reported to the IRS, the business itself isn’t taxed. Instead, each member’s share of the profits (as determined in the business’s LLC operating agreement) is treated as their personal income.
Like single-member LLCs, multi-member LLC members also pay themselves through the owner’s draw method. They can each draw as much or as little of their shares as they choose, as long as sufficient funds remain on hand for day-to-day business expenses and growth.
If financial reserves permit, these LLCs can set up guaranteed payments for members. Similar to salaries, guaranteed payments are paid out regardless of business performance.
Corporate LLCs: Salary and distributions
If an LLC has opted to be treated as an S corporation or C corporation for tax purposes, members (now also known as shareholders) aren’t allowed to take owner’s draws. Instead, they're considered employees and must pay themselves a set salary on the company’s regular payroll with taxes withheld. This can be done by using payroll software or outsourcing the work to professionals.
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As a corporate LLC owner, you can determine your salary amount, but that figure must meet the requirements for “reasonable compensation." The IRS defines this as “the value that would ordinarily be paid for like services by like enterprises under like circ*mstances.”
In addition to your official salary, you can also elect to pay yourself distributions or dividends, which are distributions that come out of a business's profits. Distributions and dividends don't need to have payroll taxes withheld, but are still considered taxable income.
How do owner’s draws work?
If you’re a single-member LLC, or have check-writing privileges as a multi-member LLC member, payday involves issuing a check or direct deposit to yourself and keeping good bookkeeping records. Paying yourself in cash is never recommended because it leaves no paper trail, increases the odds of an error and sends a red flag to the IRS.
This payment can be issued by physically writing a check, making a bank transfer or through some payroll software providers. No tax withholding is required at this point, but you’ll have to pay tax on your income further down the line.
How are owner’s draws taxed?
With the owner’s draw method, there is no tax withholding. However, an owner’s draw is still taxable income that you have to report to the IRS, and all required taxes on this income will be due at tax time. To soften the impact, make quarterly estimated income tax payments throughout the year via Form 1040-ES.
Here’s how to handle your LLC’s tax obligations:
If you have a single-member LLC: The business doesn’t file a separate IRS return. Instead, report the LLC profits and losses on Schedule C of your personal tax return, as with a sole proprietorship. You’ll owe income tax on the full amount of the LLC’s profits, whether or not you’ve drawn the entire amount, plus self-employment tax (for Social Security and Medicare).
If you have a multi-member LLC: As a partnership, your business doesn’t file a separate business tax return. Instead, each member files their percentage of the LLC’s profits and losses on their individual tax returns. Members each owe income tax on 100% of their profit share, whether or not they’ve drawn that entire amount — and they also must pay self-employment tax (for Social Security and Medicare). Additionally, multi-member LLCs are required to file IRS Form 1065, and each member must file a Schedule K-1.
How are corporate LLCs taxed?
Because corporate LLC owners who work at the company receive a standard salary, all required taxes are withheld before paychecks are issued.
LLCs taxed as C corporations must file a business tax return. This means that you could be taxed at the business level and again at the level of personal income. LLCs taxed as S corporations don't pay corporate taxes; instead, they pass income directly to the owners.
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