Forming a Limited Liability Company (LLC)

mycpaweb — Wed, 28 Oct 2009 16:44:47 +0000

In an LLC, owners have limited personal liability for the debts and actions of LLC, similar to a corporation. The benefits of pass-through taxation and flexibility, much like a partnership, make LLCs an attractive business structure. Each state may use different regulations, and you should check with your state if you are interested in starting a Limited Liability Company. Banks, insurance companies, and non-profit organizations generally cannot be LLCs. Your state may have other restrictions.

Electing an Entity Classification

Because the federal government does not recognize LLCs for federal taxation purposes, each LLC is classified differently depending on the LLCs structure. In some cases, the company can request how they would like to file the return. LLCs can only be classified as a corporation, partnership or sole proprietorship. Form 8832 is needed to classify your LLC.

New tax breakthrough for LLCs

mycpaweb — Thu, 24 Sep 2009 15:37:25 +0000

An important new Tax Court case could provide valuable tax savings for owners of limited liability corporations (LLCs) and partners in limited liability partnerships (LLPs). The decision permits a couple to use a loss from an LLC or LLP to offset highly taxed income. Previously, it was presumed that such losses could only be used to offset income from other “passive” activities.

Background: New forms of business ownership featuring limited liability are growing in popularity. In particular, the LLC setup is advantageous for its owners (called “members”). As with other pass-through entities, like S corporations and partnerships, items of income and loss of an LLC are passed through to the members. There’s only one level of tax as opposed to double taxation for C corporations.

However, the IRS has long presumed that the passive activity loss (PAL) rules automatically apply to LLCs. If a business activity is characterized as a passive activity, the loss may only be used to offset income from other passive activities. Therefore, you can’t use a PAL to offset income from wages or other highly taxed income. Any excess loss is suspended and is carried forward to future years.

A passive activity is defined as a trade or business in which you do not “materially participate.” The IRS has established several tests for determining material participation. But certain activities, such as rental real estate and limited partnership interests, are treated as passive activities right from the start.

In the new case, a couple’s losses from several LLCs and LLPS were disallowed by the IRS. But the Tax Court disagreed with the IRS’ presumption. Unlike a limited partner in a limited partnership, LLC and LLP owners do not compromise their limited liability under state law by participating in management. Therefore, the taxpayers should not automatically be treated as passive investors. If they qualify as material participants, they can deduct the losses against other income.

Based on the new Tax Court case, some LLC members may be entitled to refunds for prior years. This new decision may have particular significance for many LLC members. If you have any questions about the potential tax benefits, call our office and we would be glad to assist you.

Emil Estafanous, CPA
contact: emil@mycpaweb.com
562-868-6333