Hi everyone, I’m Bette Hochberger, CPA, CGMA. For today’s blog, I will be discussing how to pay yourself a salary from an LLC.
Operating a Limited Liability Company (LLC) comes with unique challenges, especially when it comes to paying yourself. Unlike sole proprietorships, the methods of drawing an income from an LLC can vary significantly, depending on whether it’s a single-member or multi-member LLC.
Additionally, there’s the crucial aspect of meeting IRS standards for ‘reasonable compensation. This guide will walk you through the process of paying yourself from an LLC and ensuring your earnings align with IRS guidelines.
Understanding Your LLC Structure
The first step is to understand your LLC structure, as this determines how you can pay yourself.
– Single-Member LLCs: If you’re the sole owner, your LLC is considered a ‘disregarded entity’ by the IRS. This means the LLC’s income passes through to your personal tax return. You can take money out as a ‘draw’ which is not subject to tax withholding.
– Multi-Member LLCs: In a multi-member LLC, each member’s share of profits and losses passes through to their personal tax returns. Payments to members are also treated as draws and are not subject to withholding.
Setting Up Reasonable Compensation
For LLC owners who actively work in their business, the IRS requires that you receive ‘reasonable compensation’ before taking any additional profits.
– If your LLC is taxed as a corporation: You must be paid a reasonable salary as an employee of the LLC. This salary is subject to payroll taxes.
– For other LLCs: While there’s no legal requirement to pay yourself a formal salary, the concept of reasonable compensation still applies for tax purposes. It’s important to determine a fair market salary for the work you perform.
Managing Payroll and Taxes
If you’re receiving a salary, setting up a payroll system is essential.
– Utilize payroll software or hire a payroll service provider for ease and accuracy.
– Ensure that all payroll taxes are appropriately withheld and paid.
Taking Owner Draws
Apart from a salary, you can take additional money out of your LLC through owner draws.
– Draws are not subject to immediate taxation but affect your tax liability as they increase your personal income.
– Keep meticulous records of these draws for accounting and tax purposes.
Compliance with IRS Guidelines
To stay compliant with IRS rules:
– Document the rationale behind your compensation and draws, showing they are reasonable and aligned with industry standards.
– Regularly review and adjust your compensation strategy to reflect your LLC’s financial health and market conditions.
Paying yourself from an LLC requires careful consideration of your business structure, IRS guidelines, and personal financial needs. By understanding the nuances of reasonable compensation, setting up a proper payroll system, and keeping detailed financial records, you can ensure that your compensation strategy is both profitable and compliant.
I hope you learned something new today, and I’ll see you all again next time!