Accounting & Bookkeeping & Small Business Forum

[cdiii3]

Should a single member LLC be disregarded as a tax entity, or elect to be taxed as a sub s corp?

[RobJ]

cdiii3 wrote: Should a single member LLC be disregarded as a tax entity, or elect to be taxed as a sub s corp?
What do you mean by "disregarded as a tax entity"?

Rob

[cdiii3]

Disregarded entity means that a separate entity for tax purposes is not recognized and the taxpayer would not file an 1120S but would include business income and expenses on schedule C.

[RobJ]

cdiii3 wrote: Should a single member LLC be disregarded as a tax entity, or elect to be taxed as a sub s corp?
Are you currently a single member LLC? Are you considering changing your current business entity from LLC to S-CORP? Are you thinking about creating an S-CORP as the "parent" of the LLC? I guess I'm not sure what you're asking.

[cdiii3]

It was meant as a general question (I have several clients that are single member LLCs). The previous thread for example had some question whether a sub s corp could take the home office deduction. Perhaps there are some advantages/disadvantages to being a "disregarded entity." Also, instructions for form 8832 imply that disregarded entities with limited liability should elect corporation treatment.

[RobJ]

cdiii3 wrote: It was meant as a general question (I have several clients that are single member LLCs). The previous thread for example had some question whether a sub s corp could take the home office deduction. Perhaps there are some advantages/disadvantages to being a "disregarded entity." Also, instructions for form 8832 imply that disregarded entities with limited liability should elect corporation treatment.
There are clearly distinct advantages and disadvantages to each business entity. The advantages today may turn into disadvantages down the road and vice versa. I'm unclear how much you know about each type of entity and don't want to cover territory that you're already familiar with.

If you're only vaguely familiar with the different entity types, you may want to check out some of the links here:

http://www.google.com/search?hl=en&q=llc+s-corp+c-corp

I'll leave it here unless you have a specific question. For what it's worth, I wouldn't use an IRS form to help guide my decision.

Rob

[cdiii3]

From other discussions, the consensus is that most single member LLCs file an 1120S. For purposes of preserving limited liability, we all know that an llc should keep business records and assets separate from personal. It also wouldn't hurt to keep the businsess tax return separate from the personal.

[Richard Noot]

cdiii3 wrote: From other discussions, the consensus is that most single member LLCs file an 1120S. For purposes of preserving limited liability, we all know that an llc should keep business records and assets separate from personal. It also wouldn't hurt to keep the businsess tax return separate from the personal. I am not sure how you came to the conclussion that most single member LLC's file as 1120S since there are specific requirements and guidelines the LLC must first do to become a 1120S. Also your statement that it would not hurt to keep business tax returns separate from personal contradicts the above.

[cdiii3]

Discussions with colleagues indicate that most single member LLCs have elected to file 1120S returns after meeting the prerequisites and making the required election. The idea that keeping business and personal tax returns separate wouldn't hurt is taken within the context of preserving limited liability status. As we all know, limited liability status comes with costs.

[irsfixer]

cdiii3 wrote: From other discussions, the consensus is that most single member LLCs file an 1120S. For purposes of preserving limited liability, we all know that an llc should keep business records and assets separate from personal. It also wouldn't hurt to keep the businsess tax return separate from the personal.

By default, LLC's are treated as sole proprietors - filing a Schedule C. You can elect to be treated as a corp but you must file an election to be treated as an S corp.

[RobJ]

I'm probably going to put my foot in my mouth since there probably isn't enough information here for me to draw any conclusions, but here goes ...

cdiii3 wrote: Also, instructions for form 8832 imply that disregarded entities with limited liability should elect corporation treatment
An LLC is not required to file Form 8832 unless it wishes to be "taxed" as a corporation. To elect S-CORP tax treatment, Form 2553 would be filed, not 8832. Form 8832 is filed to elect C-CORP tax treatment. An LLC, as a business entity, provides benefits not obtained as a sole proprietor or a corporation. The forms you file with the IRS have an effect only with regard to how a business files its taxes not how an LLC is treated if it is sued in court or if it files bankruptcy. What part of Form 8832 implies that electing corporation treatment would be beneficial?

cdiii3 wrote: From other discussions, the consensus is that most single member LLCs file an 1120S.
I don't think that's true at all. Most single-member LLCs file Schedule C with their Form 1040 just as a sole proprietor. To file using 1120S, you'd have to elect to be treated as an S-CORP which would defeat the purpose of being an LLC. I can't think of any rationale for doing that.

cdiii3 wrote: For purposes of preserving limited liability, we all know that an llc should keep business records and assets separate from personal.
I agree.

cdiii3 wrote: It also wouldn't hurt to keep the businsess tax return separate from the personal.
Are you implying that a business owner loses some personal liability protection if he/she files Schedule C with Form 1040? I hope not because that's exactly what is required of an LLC. How would doing what is expected of all LLCs be harmful?

If a business owner were really haphazard and sloppy in keeping their personal and business lives separate, I could see the potential for someone to challenge whether the LLC ever really existed at all, but the same is true of any business entity - LLC, S-CORP, or C-CORP. That said, any business owner who takes reasonable care to keep the two separate won't have any problems.

OK, I'll get off my soapbox now and you can tell me that I haven't got a clue what I'm talking about.

[cdiii3]

The point that form 2553 would be used for an LLC to elect sub S status is conceded (8832 relates to C status). One (perceived or real) disadvantage of LLC as opposed to sub S status is that the former provides less protection from liability because of a relative lack of case law. The instructions for form 8832 state that a disgregarded entity's separate existence is ignored for federal tax purposes unless it elects corporate tax treatment (Disregarded Entity, pg 4). I realize that the method of taxation very well could differ from whatever rules may apply to a court challenge. But it seems to me that keeping business and personal tax returns separate wouldn't hurt in maintaining the entity's status as separate. My statement that the instructions imply that a protected entity should elect corporation status for tax purposes was too bold. My mistake.

As for the statement that other discussions indicate most single member LLCs elect sub S status is based on those discussion with other practitioners. That's why I mentioned it here...to see what others have to say.

The main idea for the original post was to address any tax issues for a single member LLC to elect sub S status rather than file a sched C.

I am not here to tell anybody that they haven't got a clue, and I am sure an excellent case can be made that I don't have a clue. I am here to learn, and to get it wrong here, rather than make a mistake for any client.

[RobJ]

I agree about learning new things. That's why I enjoy helping others here. I was joking about the "got a clue" part. I try to do my homework before replying, especially on things that I'm rusty at. Inevitably, there are those times when I misinterpret something or get a little ahead of myself.

cdiii3 wrote: One (perceived or real) disadvantage of LLC as opposed to sub S status is that the former provides less protection from liability because of a relative lack of case law.
First, sub-S is an IRS election, not a recognized business entity. I don't believe (and this is where "foot-in-mouth" might happen) that "electing" to be "treated as" an S-CORP or a C-CORP for tax purposes would provide ANY personal liability protection. In order to provide (again, my understanding) the level of protection that you're discussing, you must incorporate. In other words, if an LLC elects to be treated as a C-CORP or S-CORP for tax purposes, the income and expenses go on a different form, but the business is still an (unincorporated) LLC when it enters a courtroom and would be afforded all the protections provided by state law, which, as you said, is still relatively young in terms of case law.

cdiii3 wrote: The instructions for form 8832 state that a disgregarded entity's separate existence is ignored for federal tax purposes unless it elects corporate tax treatment (Disregarded Entity, pg 4).
As far as the IRS is concerned, there is no such thing as an LLC for tax purposes. That's why it's "disregarded" and treated as a sole proprietorship for tax purposes.

cdiii3 wrote: I realize that the method of taxation very well could differ from whatever rules may apply to a court challenge. But it seems to me that keeping business and personal tax returns separate wouldn't hurt in maintaining the entity's status as separate.
If I were to agree with that statement, I'd have to conclude that no one should use an LLC as their business arrangement and I can't. That said, I've always liked the "rock-solid" boundary that incorporating provides and would not (unless there were "clear" benefits) choose an LLC as my business entity.

cdiii3 wrote: As for the statement that other discussions indicate most single member LLCs elect sub S status is based on those discussion with other practitioners.
There's a good question/answer at the link below. I like much of the rationale.

http://en.allexperts.com/q/Tax-Law-Questions-932/single-member-LLC-S.htm

Thanks for the back-and-forth. I've learned a lot from it.

[cdiii3]

I am enjoying the discussion and am learning much here too. The link is really informative (I also appreciate the link under the 'home office' thread).

[Richard Noot]

cdiii3 wrote: As for the statement that other discussions indicate most single member LLCs elect sub S status is based on those discussion with other practitioners.
There's a good question/answer at the link below. I like much of the rationale.

http://en.allexperts.com/q/Tax-Law-Questions-932/single-member-LLC-S.htm

Thanks for the back-and-forth. I've learned a lot from it.[/quote] The following is a partial quote from the above given link:

But the LLC has not been proven to limit liability, whereas the real corporation has had a long history in court and there is a lot of precedence to support the separation of the corporation and the individual.

Just recently there was a court case (I believe it was Indiana) where LLC protection was denied to a single member LLC. What protection that is provided is determined by the state courts and like the author states case history is scant in regards to LLCs. I originally became a LLc under the false assumption that I was fully protected. NOW I feel differently. The extra paperwork and requirements are not worth the hassle.