How to Pay Yourself as an LLC Owner
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Summary:
Paying yourself as the owner of an LLC depends on the category the business falls into. Single- and multimember LLC owners can pay themselves via an owner’s draw, while corporate LLC owners may determine their own salaries, though it must be deemed reasonable compensation. LLC owners can also pay themselves through their companies’ dividends and distributions, or by classifying themselves as independent contractors that do work for the companies.
Limited liability companies are seemingly everywhere. Not only are they useful for large businesses and corporations, but forming one can also provide benefits to individuals and small companies. However, getting into the weeds with an LLC and its pay structure can get confusing, especially when you’re the owner and the potential sole employee.
To avoid any pitfalls, it’s important to know when paying taxes and taking a salary of your own what type of LLC you have. Owner’s draws can be useful ways to pay yourself as an LLC owner, as can taking dividends and distributions. Owning an LLC allows you to get creative when it comes to paying yourself.
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What is an LLC?
A limited liability company (LLC) is a hybrid business structure that combines features of both corporations and sole proprietorships. Basically, LLCs are structured so that your business profits and losses are reported on your personal income tax return rather than your business tax return. There are three main types of LLCs.
- Single-member LLC. Single-member LLCs only have one member. For tax purposes, the Internal Revenue Service (IRS) views single-member LLCs as sole proprietorships.
- Multimember LLC. Multimember LLCs have more than one member. The IRS treats these as partnerships for tax purposes.
- Corporate LLC. Corporate LLCs elect to be taxed as corporations. To establish a business as a corporate LLC, you need to make a formal request to the IRS.
Pro Tip
It’s recommended that you consult with an attorney or Certified Professional Accountant (CPA) before forming an LLC or any type of business. Although LLCs are fairly simple compared to corporations, an attorney or CPA can guide you through the entire process to determine which structure is best suited for you and your business.
What are the advantages of LLCs?
There are several advantages to creating an LLC. They are easy to start and, in case of a lawsuit, can help protect your assets. They can also provide certain tax advantages in addition to other benefits.
- Limited personal liability. If your business is an LLC, your personal assets, including things such as your home or personal bank account, are protected. An LLC will better protect your assets than a sole proprietorship.
- Corporate tax savings. As an LLC owner, you don’t have to file a corporate tax return. In most cases, members of an LLC report profit and loss on their individual tax returns, which makes the need to file a corporate tax return irrelevant and allows you to avoid duplicate taxation.
- Sole ownership. Most states allow you to be a single-member LLC, meaning that you can continue to run your business without the need for partners or a board of directors.
- Credibility. By becoming an LLC, you have the potential to increase your credibility with your customers, vendors, and financial institutions. LLCs project an image of stability, which customers appreciate and financial institutions can place more trust in.
How do you pay yourself as an LLC owner?
How to pay yourself as an LLC owner depends on the type of LLC you have and how many members there are. If the LLC is a sole proprietorship, you will pay yourself differently than if you are part of a partnership or corporation.
Single-member LLC
Instead of taking a conventional salary, single-member LLC owners pay themselves through what’s known as an owner’s draw. There are two ways of using an owner’s draw.
The easiest way is to write yourself a check from the business bank account and deposit it into your personal account. The other option is to transfer funds from your business bank account into your personal account. The amount and frequency of these draws is up to you. That said, you’ll want to leave enough funds in the business account to operate and grow the LLC.
If you just started your LLC, you may not have a business bank account yet. Before opening one, be sure to consider the options below and keep your business income safe.
Multimember LLC
As with single-member LLCs, multimember LLCs also pay themselves through the owner’s draw method. Each LLC member can draw as much or as little of their shares as they choose, as long as sufficient funds remain on hand for day-to-day business expenses and growth.
In many cases, members of a multimember LLC are paid just once at the end of the fiscal year, and each of the LLC members receives their portion of the profits in one lump sum.
Corporate LLC
Corporate LLCs can choose to be treated as an S corporation or C corporation for tax purposes. In the case of both, members (also known as shareholders) aren’t allowed to take owner’s draws.
As a corporate LLC owner, you can determine your own salary. However, the amount you draw has to meet the requirements for reasonable compensation.
What happens with taxes if you pay yourself as an LLC owner?
Again, how your income is taxed as an LLC owner depends on the type of LLC you set up. In particular, with the owner’s draw method, there is no tax withholding responsibility on the part of the owner.
That said, money received through owner’s draws is taxable income and therefore must be reported to the IRS.
Single-member LLC
With a single-member LLC, the business doesn’t file a separate IRS tax return. Instead, the LLC reports profits and losses on the Schedule C section of your personal tax return, as you would do with a sole proprietorship.
You will owe income tax on all of the LLC’s profits, whether or not you’ve drawn the entire amount. This is in addition to a self-employment tax (for Social Security and Medicare) on the amount actually drawn during the year as well as self-employment taxes.
Multimember LLC
As a partnership, a multimember LLC doesn’t file a separate business tax return. Instead, each member files their percentage of the LLC’s profits and losses on their own individual tax returns.
Members each owe income tax on all of their profit shares, whether or not they’ve drawn that entire amount. As with a single-member LLC, they must also pay a self-employment tax (for Social Security and Medicare) on the amounts they drew. Multimember LLCs are also required to file IRS Form 1065, and each member must file a Schedule K-1.
Corporate LLC
Since the owners of corporate LLCs receive a standard salary, all of the required taxes are withheld before their paychecks are issued. Additionally, corporate LLCs that are taxed as C corporations must file a separate business tax return.
This means that owners will need to plan for the business to be double-taxed, both at the business level and again at the level of personal income. Corporate LLCs that are taxed as S corporations don’t pay corporate taxes and instead pass income directly to the owners. As the IRS puts it:
Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income.
Pro Tip
While some states may offer more advantageous tax benefits for business owners, it’s generally a good idea to establish an LLC in the state where you intend to do the majority of your business. Otherwise, the LLC will have to register as a foreign LLC to do business in its home state, which can increase the formation and administrative costs.
Are there other ways to pay yourself as an LLC owner?
There are ways to pay yourself as the owner of an LLC that don’t rely on owner’s draws and salary determinations. Most of these options are only available to owners of single- and multimember LLCs, as corporate LLC owners determine their own salary and are subject to more stringent rules.
Dividends and distributions
Instead of taking an official salary, LLC owners can also elect to pay themselves in distributions or dividends, which come out of a business’s profits. For example, if your LLC had $100,000 in profit and you and another member each own 50%, you can each receive $50,000 as part of the year-end profit distribution.
If you are the only member of the LLC, you will have to pay income taxes on your distributions. If there is more than one member, the IRS treats the LLC as a partnership, and you each report your share of the profit and pay income taxes on that.
Independent contractor
Another option to pay yourself as the owner of an LLC is to hire yourself as an independent contractor and complete work for the LLC you also own. However, this type of arrangement may not offer many benefits, and you’ll need to file additional tax forms as an independent contractor.
FAQs
Can you choose not to pay yourself as an LLC owner?
You can choose to not pay yourself as an LLC owner and leave any profits in the LLC. However, you’ll still need to pay income tax on the profit earned since the revenues from your LLC transfer to your personal tax return.
Should the owner of an LLC be on the payroll?
While LLC owners cannot be considered employees of the company they own, they can be on the payroll, as they still have to earn a salary.
The easiest way to pay LLC members is to take their salary out of their share of the company’s profits. They can also be paid through the dividends and distributions of the company.
What is the best way to pay yourself as a business owner?
There is no one best way to pay yourself as the owner of a business or LLC. However, the most common and easiest way is to pay yourself through an owner’s draw. This is when the owner of a sole proprietorship, partnership, or LLC takes money from their business for personal use. The money is then used for personal expenses, as opposed to taking a traditional salary.
Key Takeaways
- An LLC is a hybrid business structure that combines features of both corporations and sole proprietorships and provides personal liability protection.
- The three main types of LLCs include single-member, multimember, and corporate LLCs.
- Advantages of LLCs include limited personal liability, corporate tax savings, sole ownership, and increased credibility.
- Single- and multimember LLC owners can pay themselves through an owner’s draw. This means you can write yourself a check from the business bank account and deposit it into your personal account. Alternatively, you can transfer funds from your business bank account into your personal account.
- Corporate LLC owners can determine their own salary, but it has to meet the requirements for reasonable compensation.
- Single- and multimember LLC owners don’t file separate business tax returns.
- Corporate LLC owners receive a standard salary, so all of the required taxes are withheld before their paychecks are issued.
- LLC owners can also pay themselves through distributions and dividends from the company or by classifying themselves as independent contractors that do work for the company.
- You can choose to not pay yourself as an LLC owner and leave any profits in the LLC.
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