Limited Liability Companies and Income

ERISA consultants at the Retirement Learning Center (RLC) Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare.  We bring Case of the Week to you to highlight the most relevant topics affecting your business.  

A recent call with a financial advisor in New York is representative of a common scenario involving a partner in a limited liability company (LLC). The advisor asked:  “My client, who is a partner in an LLC, would like contribute to a retirement plan and wants to know what compensation she should use for contribution purposes?” 

Highlights of the Discussion

Because this question deals with specific tax information, business owners should always seek the guidance of a tax professional for advice on their individual situations.  What follows is general information.  

For federal tax purposes, the IRS, typically, treats an LLC as a partnership, which must file IRS Form 1065, U.S. Return of Partnership Income for the business.1 There are exceptions to this rule, so a client should be encouraged to determine the exact nature of the business’s tax structure with a tax advisor. For example, a domestic LLC with at least two members is classified as a partnership for federal income tax purposes unless it files Form 8832, Entity Classification Election and elects to be treated as a corporation. 

Any retirement plan established would need to cover the LLC as a whole. For plan purposes, assuming the LLC is a partnership, each partner of the LLC should receive a Schedule K-1 (Form 1065) for his or her share of income or losses associated with the business. Therefore, a partner in an LLC would use his or her earnings from self employment reported on the Schedule K-1 (Form 1065) to determine contributions for plan purposes.  

Conclusion

When faced with a client who has a tax-related question, it is always prudent to direct the client to his or her own tax advisor for definitive answers. Generally, owners of an LLC are partners for tax purposes, but exceptions may apply. Partners use earnings from self employment reported on the Schedule K-1 (Form 1065) for plan purposes.