Multi-Member LLC Taxes Guide

Updated: 2/23/24

Multi-member LLC taxes — a tedious but essential aspect of running an LLC with more than one member. Even if you hire an accountant to handle your business taxes, it’s a good idea to understand the basics of multi-member LLC taxation. In this guide, we’ll cover the essentials to multi-member LLC taxes, including how taxation works, how to file your taxes, and more.

How is a multi-member LLC taxed?

By default, a multi-member limited liability company (LLC) is taxed as a partnership, meaning it’s a pass-through entity for federal income tax purposes. The LLC itself doesn’t pay income tax; the members do by reporting the income they receive from distributions on their personal income tax returns. This is different from a typical corporation, in which profits are taxed at both the business level and again at the individual owner level.

Multi-Member LLC Tax Filing Requirements

Even though a multi-member LLC itself isn’t a taxable entity by default, the LLC does still file an informational return (usually at both the state and federal levels). These informational returns usually describe the profits, losses, and deductions the LLC experienced throughout the year. They also explain how much profit was distributed to each member.

The members corroborate the numbers filed on the informational return when they file their personal taxes.

Single-Member vs. Multi-Member LLC Taxes

Business entity taxes for a single-member LLC (an LLC with only one member) are a little bit different than a multi-member LLC. Both LLCs are subject to pass-through taxation by default and pay personal income tax rates. But a single-member LLC is considered to be a “disregarded entity” for federal income tax purposes unless it opts to be taxed as a corporation.

A single-member LLC doesn’t file its own tax return; its owner simply reports any business income on their personal tax return. That’s because even though a single-member LLC is a separate legal entity from its owner for liability purposes, it’s indistinguishable for tax purposes.

How to File Multi-Member LLC Taxes

How you’ll file your taxes ultimately depends on what taxation structure you elect (or don’t elect). If you’re taxed as a partnership — the default status for federal tax purposes — then you’ll submit Form 1065, the U.S. Return of Partnership Income. This is just an informational report; the form with actual federal income taxes due is Schedule K-1 (1065). Each business partner will complete this section on their personal income tax return.

Typically, this approach repeats on the state level (with slightly different forms in each state). Some states, however, have a dedicated business income tax or partnership income tax to pay, even for pass-through entities. Every state’s business taxes are different, so we recommend enlisting the help of a local tax professional to cover all your bases.

To avoid underpayment fees or late fees, the IRS requires making estimated payments once a quarter based on your projected income for the year. They’re a bit like deposits for your income taxes (or the income an employer would make tax withholdings from your paycheck). You’ll also be responsible for self-employment tax, the tax earmarked for Social Security and Medicare.

Tax Deductions

There are a few ways you can reduce your tax bill. Beginning in 2018, the IRS introduced the Qualified Business Income Deduction. This deduction allows many small business owners to deduct 20% of their business income each year. It’s available regardless of whether you itemize or take the standard deduction.

Like any business, you can also write off certain costs, such as supplies for your business, mileage you travel for business purposes, advertising costs, and more. If you pay for your own insurance plan or take a training course, you can probably deduct those costs, too. You might even be able to make a compensation deduction for some of the wages and benefits you extend to your employees.

If you choose to take these deductions, be sure to keep good records of your receipts and be mindful of deduction limits. We also recommend hiring a business tax expert to assist with your taxes. For even more small business tax insights, check out our tax tips guide.

Other Considerations

Pass-through taxation as a partnership is the default tax status for a multi-member LLC. However, if you elect a different tax structure like a C corporation or S corporation, your tax forms will look different.

C Corporations: Double Taxation but More Tax Credits

LLCs taxed as C corporations file and pay taxes on a corporate tax return (Form 1120), while the owners report any income they receive from dividends on their personal returns. This results in double taxation of the business profits. However, corporate structures have more business tax credit options to take advantage of. 

S Corporations: Similar to Partnerships with Different Forms

LLCs taxed as S corporations have very similar tax treatment to partnerships; the tax burden passes through to the members. But the forms are slightly different. S corporations use Form 1120-S instead. Make sure you use the correct tax forms for your taxation structure!

So, why would an LLC that already has pass-through taxation want to be taxed as an S corp? It has to do with potential savings on self-employment taxes (the taxes earmarked for Social Security and Medicare).

Compensating LLC Members as Employees to Reduce Self-Employment Taxes

The members of a standard LLC are considered self-employed. They’re compensated by receiving their share of profits from the LLC, but they can’t be employed by the LLC. Being self-employed means paying self-employment taxes (about 15.3%) on all profits they receive from the LLC. This is more than the taxes they’d pay when working for someone else because their employer would pay part of them.

When the members elect S corp status, though, they can be compensated in two ways, by receiving their share of the profits and by being paid as an employee. Once they do that, they only pay self-employment taxes on their salary and not the profits they receive. (Of course, this is only for self-employment taxes; LLC members still must pay income and other applicable taxes on their profits.) This can add up to quite a lot for certain profitable LLCs.

One caveat to this is that the IRS expects you to pay yourself a “reasonable salary” as an employee of the LLC. Otherwise, you could pay yourself an annual salary of $1 and avoid contributing anything to Social Security and Medicare. The IRS generally considers “reasonable” to be something similar to what others in your field are earning.

What are the tax benefits of a multi-member LLC?

One of the biggest tax benefits of a multi-member LLC is simply that an LLC offers so many taxation options. While you can’t avoid taxes entirely, you can elect the tax status that creates the lowest possible tax burden for your unique business. For some multi-member LLCs, that benefit means avoiding the double taxation of a corporation and often higher corporate tax rates. But other multi-member LLCs might find it helpful to reduce self-employment taxes by filing as an S corporation or C corporation instead.

The luxury is that you can choose what best fits your needs. And, if your business needs change later on, you can change your taxation status.

Changing the Tax Status of a Multi-Member LLC

For multi-member LLCs, understanding how to navigate a change in tax status can unlock strategic financial advantages. Whether you’re considering a shift to being taxed as an S corporation (S corp) or a C corporation (C corp), the process involves specific steps and adherence to IRS regulations.

To initiate a change in tax status, a multi-member LLC must file IRS Form 8832, “Entity Classification Election,” to elect C Corp status, or Form 2553 to elect S Corp status. The election to change is a significant decision that impacts how the business is taxed, including its tax rates, eligibility for certain deductions, and the handling of business income.

1. Form 8832 is used if the LLC opts to be treated as a C corporation. Once this election is made, the LLC will be subject to corporate income tax rates, and profits distributed as dividends may be taxed again at the shareholder level, leading to double taxation. However, this status also opens up a broader range of tax deductions and credits.
2. Form 2553 is utilized by LLCs choosing to be taxed as an S corporation. This status allows profits (and losses) to pass through directly to the members’ personal tax returns, avoiding the double taxation characteristic of C corps. S corp status can be particularly beneficial for LLCs looking to save on self-employment taxes, as only wages paid to LLC members working in the business are subject to these taxes, not the entire business profit.

It’s crucial to note that there are limitations on how often an LLC can change its tax status. After making an election, the LLC generally must wait five years before making another change, unless it obtains consent from the IRS. This rule is designed to prevent businesses from frequently switching their tax status to exploit short-term tax advantages.

Before undertaking a change in tax status, it’s highly recommended to consult with a tax professional. They can offer guidance tailored to your LLC’s financial situation, help navigate the complex IRS requirements, and ensure that the elected tax status aligns with your business goals and operations.

Changing the tax status of a multi-member LLC is a strategic decision that can have significant implications for the business’s financial health and tax obligations. By understanding the process and consulting with professionals, LLC members can make informed choices that support their long-term success.

Try ZenBusiness

At ZenBusiness, with love to help entrepreneurs take away some of the guesswork to running their business. Whether you need help forming your multi-member LLC, creating an operating agreement, or maintaining a registered agent, we can help. ZenBusiness Money can also help you easily track invoices, expenses, and all the financial data you’ll need at your fingertips to keep taxes simple.

Disclaimer: The content on this page is for information purposes only and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.