The short answer to this question is yes, in most instances LLCs owners are considered self-employed. LLC owners are taxed as self-employed business owners, unless they elect to be taxed as a corporation with the IRS.
An LLC is a formal business entity considered legally separate from its owner, it also affords owners limited liability protection making it the perfect business structure for small business owners. LLC owners are also granted a certain degree of flexibility when filing their taxes with the IRS. This gives LLC owners much leeway to elect the tax structure that suits their business best.
The Internal Revenue Service (IRS) taxes LLCs in one of three ways, either as a disregarded entity, as a partnership or as a corporation and electing one of the three has implications for whether an LLC owner can also be considered self-employed.
When are LLC owners considered self-employed?
Whether or not an LLC owner can be considered self-employed depends on the LLC’s chosen tax structure. LLCs can either be taxed as pass-through entities, as independent contractors or sole proprietorships would be, or they can be taxed as a disregarded entity or partnership.
Single-member LLCs are generally taxed as disregarded entities by the IRS, this means owners are required to pay self-employment tax on their share of the LLC’s profits. Yet, this also means that their share of the LLC’s profits is not subject to double taxation as the LLC has already paid income tax on the total profit reported on the owner’s personal income tax return.
On the other hand, multi-member LLCs are taxed as partnerships by the IRS which implies that the LLC’s profits are not subject to incomes taxed but is instead passed through to the members of the LLC to be reported on their individual tax returns. It is important to remember that being taxed as both a disregarded entity or a partnership will require an LLC owner to pay quarterly income payments to the IRS as well as list their self-employment income tax on their personal tax returns.
LLC owners regarded as pass-through entities, disregarded entities and partnerships are all considered self-employed and are thus subject to self-employment taxes. Unless LLC owners choose to be taxed as a corporation, owning an LLC automatically renders owners self-employed.
What about LLC owners who elect to be taxed as a corporation?
LLCs owners who decide to be taxed as corporations are not considered self-employed and are not required to pay self-employment taxes, they instead pay income tax on the dividends shareholders receive from the LLC. An LLC that decides to be taxed as a corporation is owned by shareholders who are not seen as self-employed but as members. Yet as a member of an LLC (that is taxed as a corporation), shareholders can become employees of the LLC and take a reasonable salary. This in turn allows for more flexibility in how an LLC’s profits are distributed and also for avoiding self-employment taxes.
LLCs that are taxed as corporations do not pay self-employment taxes. In such cases, LLCs are subject to corporate income tax after which profits are distributed among owners and these dividends are further subjected to personal income tax. Due to the fact that owners report their individual share of the LLC’s total profits on their personal tax returns, they are afforded the advantage of pass-through taxation without the downside of paying self-employment taxes on those earnings.
A quick Summary
LLC owners are considered self-employed if they retain their default tax status and most LLC owners decide to retain their default tax status as disregarded entities or partnership because of the benefit of pass-through taxation. Yet when LLCs elect to be taxed as a corporation, their owners are not also considered self-employed. However as a member of the LLC, they do have the option of being an employee of the LLC with a reasonable salary.
Understanding LLC taxes is the best way to know whether you are also self-employed and will be required to pay self-employment tax. Remembering the distinction we have made above is a good start and if you are still uncertain then consulting a tax expert may be your best bet.