A limited liability company (LLC) stars its life as a disregarded entity. If there is just one owner (a single member), than it will be either a Schedule C (Sole Proprietorship) or a Schedule E (rental property). If there are multiple owners (members), it will be taxed like a partnership.
However, you can elect a different tax treatment. Usually businesses want to be taxed as an S Corporation, or in some cases, a C Corporation. The corporate structure is not subject to self-employment tax of 15.3%.
So what happens if you set up your LLC early in the year and have just never bothered to do a tax election. Suddenly you realize your single member LLC will be taxed as a Schedule C with self-employment tax of $15,000 on your $100,000 income. What now?
Well, it’s not too late to do something about it. In fact, I’m surprised more people aren’t taking action. Hopefully, you’re reading this before it’s too late.
There is a way to offset some of that pain by making a late tax classification election.
When you make that change, you get to reclassify your income. Your requirement to pay self-employment tax goes away. Now granted, you’ll have to draw a salary and pay payroll tax on that, but the salary doesn’t have to be as much as the income and since the company pays half, you’ve got a deductible expense. Bottomline, you’ll pay a whole lot less in tax by making that late election.
To make the election, you need to complete the appropriate form, which is a Form 2553 for S Corp elections and a Form 8832 for C Corp elections. Send it in to the IRS, with the special verbiage that indicates the Rev Proc or Ruling you are using.
If you’re moving from a profitable Schedule C tax situation to a profitable S Corporation tax, you’ll need to also pay yourself a payroll for the year. Get with a professional on this so you can get it done quickly. It has to be done before year end. And it will mean a lot of payroll tax forms that are better suited for another discussion.
Making an S Corp election won’t reduce your income tax, but it can greatly reduce your overall tax bill by eliminating the self-employment tax.