Form 2553: How to Receive the Tax Benefits of an S-Corp While Remaining an SMLLC (Single Member Limited Liability Company)
As an SMLLC (single-member limited liability company), taxes can be burdensome if one is paying taxes on all the profits that they receive from their company. However, IRS form 2553 can be filed, which would allow the SMLLC to reap the tax benefits of an S-Corp. In this instance, assume that the company is owned by a sole individual.
SMLLC Taxation vs. S-Corp Taxation
The IRS will treat an SMLLC, by default, as a disregarded entity. Meaning, the IRS will not regard the entity as separate from the owner for filing tax returns. Hence, the IRS will “disregard” the SMLLC. All profits related to the SMLLC will pass through to the owner. Therefore, all taxes related to the business will end up on the owner’s personal tax returns, similar to a sole-proprietorship. The owner of the SMLLC will also be subject to self-employment taxes.
An S-Corp, rather, has some perhaps not so obvious perks. As an S-Corp, taxes will function similarly to the SMLLC, in that the taxes are also considered “pass-through.” All profits and losses related to the business will pass-through to the personal tax returns of the owner. However, the major benefit of an S-Corp relates to the self-employment taxes discussed in the previous paragraph. Specifically, an S-Corp can provide a means of taking more money out of a company without paying the self-employment taxes of a sole proprietor. Dividends (distributions) are not subject to the self-employment tax, but may be subject to income tax and capital gains tax. The more successful a company grows, the fewer self-employment taxes will have to be paid. However, not all of the money that one receives from an S-Corp can be considered a dividend. Even if minor services are performed for a company, that individual will be considered an employee. Therefore, they must receive a reasonable salary. That salary would be subject to self-employment tax.
Example: Tyler owns an SMLLC and files an election through Form 2553 to taxed as an S-Corp. He pays himself a reasonable salary of $60,000 and the company provides him with dividends of $60,000 per year. For simplicity, let’s assume that his self-employment tax totals 15%. He would then only be taxed on the $60,000 salary that he pays himself. His taxes would be equal to $9,000 in taxes, if he were an S-Corp. However, if Tyler had formed an SMLLC, his taxes would be similar to a sole proprietorship. Now, he would have paid 15% on the entire $120,000, equaling $18,000. Tyler would have paid $9,000 more if he had been taxed as an SMLLC that had been disregarded.
Benefits of Filing Form 2553
IRS Form 2553 can provide an SMLLC with the tax benefits of an S-Corp. Upon filing from 2553, the SMLLC would no longer be considered disregarded. Therefore, the owner would now be able to provide him/herself with dividends that they receive from the company. No longer would the entirety of their profits be taxed as a self-employed individual. As their company grows, they would also be able to increase their tax savings more and more each year.