You own a business, but are you also an employee of that business? It depends on the type of business you own. Many business owners get confused about their status and the tax implications of taking money from their business, so let's talk about it in detail:
If you own a corporation
If you are the owner of a corporation, you own shares in that corporation. If you do work for the corporation (and not just sit back and collect dividends), you get paid for that work as an employee. The IRS says you must be paid a reasonable salary for that work; you can't just work for $1 a year to avoid the payroll taxes (Social Security/Medicare, unemployment). All your employee wages must have FICA taxes (Social Security/Medicare) deducted, and the corporation must pay the other part of the FICA taxes, along with unemployment tax and workers compensation. You also receive dividends on your shares, for which you must pay taxes on your personal tax return (as investment income).
If you own an LLC
Owners of LLCs are called Members. They do not receive a paycheck as an employee. Members receive money from the LLC in two ways:
- Return on Investment. They can take out money they have invested. This return on investment is not subject to employment taxes.
- Guaranteed Payments. LLC Members may also take out money from the business in the form of guaranteed payments.
Attorney Susan Dawson, partner at Waltz, Palmer, and Dawson, explains "guaranteed payments" in more detail:
Most LLC's elect to be taxed as a partnership (or as disregarded entities for single member entities). However Members of these entities are not considered "employees" for federal income tax purposes. That means they cannot receive a salary. Payments made to the Members of an LLC for services rendered on behalf of the LLC are called "Guaranteed Payments." Because Guaranteed Payments are not salaries, they are not subject to standard income tax withholding and FICA tax.
Instead, guaranteed payments are subject to estimated income taxes and self-employment taxes. So the LLC saves on FICA taxes but the member has to make his or her own self-employment tax payments. While that may sound great, keep in mind that Guaranteed Payments are also considered ordinary income.
Waltz, Palmer & Dawson LLC (www.wpdlegal.com) was founded in 2008, creating one of the only entirely women owned law firms in the Chicagoland area. The firm uses its unique perspective to provide unparalleled legal services to its clients.
Disclaimer: The information provided in this post and on this GuideSite is for general use only. Every situation is different, and you should consult with your tax advisor before making any tax decisions.
Hat’s off. Well done, as we know that “hard work always pays off”,
after a long struggle with sincere effort it’s done.
———
Global Law Guide
good point jean, I believe that is why the S-corp tax structure is often “better” as it avoids a so-called “double tax.” although with an S-corp you do give up that flexibility of an LLC.
Can the members of an LLC (Filing a partnership return) be employees of the enity and pay FICA taxes and also receive Sch -K at the end of the year.
LLC members/owners are not employees and don’t get a paycheck, and don’t pay FICA taxes. They get “paid” by taking money out of the business for personal use. It’s called a “draw” or “return of capital.” You are correct that they get a K-1 at the end of the year showing their part of the profit or loss from the LLC, which is then shown on their personal tax return.