How to Claim an LLC on Taxes

One of the most common questions an accountant hears is, “How do I claim my LLC on my taxes?” The simple answer is that you don't. An LLC (Limited Liability Company) is a legal structure designed to protect your personal assets, but it isn't a tax classification in the eyes of the IRS. This guide breaks down exactly what that means and shows you how to choose the right tax treatment for your business and file your taxes correctly.

What Exactly is an LLC? A Quick Refresher

First, let’s separate the legal from the fiscal. An LLC is a business structure authorized by state statute. Its primary purpose is to create a legal shield between your business debts and your personal assets like your house or car. For federal tax purposes, however, the IRS doesn't have a specific tax category for "LLC." Instead, it views an LLC as a flexible entity that can be taxed in several different ways.

By default, the IRS classifies an LLC based on the number of owners, known as members. You can either stick with this default classification or formally elect to be treated as a different type of corporation. Understanding these options is the key to filing your taxes correctly and—more importantly—strategically.

The Default Tax Options for an LLC

If you take no special action, the IRS will automatically assign a tax status to your LLC. This is often the simplest path, especially for new or small businesses.

Single-Member LLC: The "Disregarded Entity"

If you are the sole owner of your LLC, the IRS treats it as a "disregarded entity." This means the IRS ignores the LLC for tax purposes and treats you and your business as one and the same. You are taxed as a sole proprietorship.

• How it works: All your business profits and losses are reported directly on your personal tax return, Form 1040. There is no separate tax return for the business itself.
• The Tax Form You'll Use: You will fill out Schedule C (Form 1040), Profit or Loss from Business. On this form, you list your gross revenue and subtract your deductible business expenses (like advertising, supplies, or vehicle costs) to arrive at your net profit or loss.
• Taxes Owed: Your net profit from Schedule C then flows to your Form 1040 and is added to any other household income. This amount is subject to two types of tax: regular income tax and self-employment tax. Self-employment tax is 15.3% and covers your contributions to Social Security and Medicare, which would normally be paid by an employer.

Because you won't have an employer withholding taxes from your paycheck, you are typically required to pay estimated taxes quarterly using Form 1040-ES to avoid a large bill and potential penalties at year-end.

Multi-Member LLC: Treated as a Partnership

If your LLC has two or more members, the IRS defaults to treating it as a partnership for tax purposes. This structure is also a "pass-through" entity, meaning the business itself doesn't pay income tax.

• How it works: The partnership reports its income and expenses, but the profits "pass through" to the individual members, who then pay tax on their share.
• The Tax Forms You'll Use: The LLC files an informational return, Form 1065, U.S. Return of Partnership Income. This form reports the company’s total revenue, expenses, and net profit. In addition, the partnership must prepare a Schedule K-1 for each member.
• What is a Schedule K-1? A K-1 is like a W-2 for partners. It details each member’s individual share of the company's profits, losses, deductions, and credits, usually based on the ownership percentages outlined in the LLC's operating agreement. Each member then uses the information from their K-1 to complete their personal Form 1040.
• Taxes Owed: Each member is responsible for paying income tax and self-employment tax on their share of the partnership's profits, regardless of whether they actually received that money in a cash distribution. This catches many new partners by surprise; you can owe tax on profits that were reinvested back into the business.

Making an Election: Choosing to be Taxed as a Corporation

Your LLC is not limited to its default status. You can formally file an election with the IRS to be taxed as either an S Corporation or a C Corporation. This is where strategic tax planning can make a significant difference, but it also adds complexity.

The S Corporation Election: A Popular Strategy

Many LLC owners elect to be taxed as an S Corporation (S Corp) to potentially reduce their self-employment tax burden. This is the most common reason to move away from the default classification.

Here’s the core concept: As a sole proprietor or partner, every single dollar of net profit is subject to the 15.3% self-employment tax. As an S Corp owner who actively works in the business, you are treated as both a shareholder and an employee.

• Reasonable Compensation: You must pay yourself a "reasonable salary" for the work you do. This salary is paid via payroll, and you pay FICA taxes (the employee/employer equivalent of self-employment tax) on that amount. What's "reasonable"? It's what other businesses would pay someone for similar work. The IRS scrutinizes this closely, so it must be a defensible number.
• Shareholder Distributions: Any remaining company profits can be paid out to you as a shareholder distribution. The key benefit? These distributions are not subject to self-employment taxes (FICA). They are only subject to regular income tax.

Example: Your single-member LLC, taxed as a sole proprietorship, makes $100,000 in net profit. You pay self-employment tax on the full $100,000 (approx. $15,300). Now, assume you elect S Corp status and determine a reasonable salary for your role is $60,000. You would pay FICA taxes on that $60,000 salary. The remaining $40,000 in profit can be taken as a distribution, and you would not pay FICA taxes on it. This simple change could save you thousands in taxes.

How to Make the Election:

1. File Form 2553, Election by a Small Business Corporation.
2. The election must be made by the 15th day of the third month of the tax year you want the election to take effect. For a calendar-year business, this is March 15.
3. Your LLC files Form 1120-S, the U.S. Income Tax Return for an S Corporation, and issues a Schedule K-1 to each shareholder reporting their share of profits and losses.

The C Corporation Election: A Less Common Choice

An LLC can also elect to be taxed as a C Corporation (C Corp) by filing Form 8832, Entity Classification Election. This is less common for small businesses because it introduces the concept of "double taxation."

• How it works: The C Corp itself pays corporate income tax on its profits by filing Form 1120. Then, if the corporation distributes any of those after-tax profits to shareholders in the form of dividends, the shareholders must pay personal income tax on those dividends. The same dollar of profit gets taxed twice.
• When does this make sense? This structure is often used by companies that plan to reinvest most of their profits back into the business for significant growth or those seeking to attract investment from venture capitalists. The corporate tax rate may also be lower than the personal income tax rate of the owners, creating an advantage for retaining earnings within the business.

Your Step-by-Step Filing Checklist

Feeling overwhelmed? Don't be. Here is a simple checklist to guide you through the process each tax season.

1. Confirm Your Tax Status: Before you do anything, know how the IRS sees you. Are you a disregarded entity, a partnership, or have you elected S Corp or C Corp status? This determines everything that follows.
2. Organize Your Financial Records: Good bookkeeping is not optional. Use software like QuickBooks, Xero, or Wave throughout the year to track all income and categorize every expense. Gather your bank statements, credit card statements, and receipts.
3. Fill Out the Correct Tax Forms: Based on your status, complete the right returns:
   • Sole Proprietor: Schedule C (Form 1040)
   • Partnership: Form 1065 and individual Schedule K-1 for each partner.
   • S Corp: Form 1120-S and individual Schedule K-1 for each shareholder.
   • C Corp: Form 1120
4. Meet Your Payment Obligations: Ensure you are up to date on any required quarterly estimated tax payments. If you made an S Corp election, double-check that payroll tax filings and payments for your reasonable salary were handled correctly throughout the year.

Common Filing Mistakes Owners Make

Navigating LLC taxes involves a few key pitfalls. Being aware of them can save you a lot of trouble.

• Missing the Election Deadline: You can't just decide you want to be an S Corp at tax time. An S corp election must be made and accepted by the IRS ahead of time. A late election can sometimes be fixed, but it requires a solid reason for the delay.
• Setting an Unreasonably Low Salary: For S Corps, this is the biggest red flag for an IRS audit. If you pay yourself a $10,000 salary on $200,000 of profit, the IRS will likely challenge it and reclassify your distributions as salary, leading to back taxes and penalties.
• Commingling Personal and Business Funds: Using your business bank account for personal groceries or paying a business expense from your personal checking account is a bad habit. It not only makes bookkeeping a nightmare but can also threaten the legal liability protection your LLC provides, a concept known as "piercing the corporate veil."

Final Thoughts

An LLC offers incredible flexibility, protecting your personal assets while allowing you to choose the tax structure that best fits your business goals. For most, the default classification as a sole proprietorship or partnership works well, but for others, an S corp is the smarter move. Take time to assess your business's needs to make the right call.

As your business and its earnings grow, the questions around entity structure, reasonable compensation, and nexus become more complex. Having access to fast, reliable tax research is essential for providing your clients with confident answers grounded in law. We built Feather AI to give tax professionals instant, citation-backed answers from authoritative sources like the IRC and IRS rulings, so you can spend less time searching and more time advising.