What’s the purpose of an LLC???
Miami, FL · Member since 2017 · 53 posts · 11 votes
@Martinis Jackson I'm a CPA and what you are saying is not accurate.
A sole proprietor is a pass through and clearly included in the new tax plan benefits.
Yes, an LLC can make a different tax election, which a rental company would never do. And either way, the LLC itself changes nothing with taxes. You can make a different tax election with or without an LLC. Which again, wouldn't happen in this case with rentals.
ALL LLC's are disregarded. The IRS does not regard LLC's as an entity. When you have an LLC with more than one member the IRS regards it as a partnership, not an LLC. And again, there are zero benefits under the new plan for LLC's as opposed to sole props. ALL entities, except C Corps, are pass through entities. This includes sole props, partnerships and S Corps. Regardless of which one you are, you will receive the 20 percent reduction of profits under the new plan.
I'm not trying to pick nits here, there's just a lot of bad info out there on LLC's when it comes to taxes. There is zero tax benefit to having one and the IRS doesn't recognize an LLC as a taxable entity, whether it is one member or one thousand members.
The one and only benefit to an LLC is the potential legal protection.
Disclaimer: I am not an attorney and none of what I have written is legal advice. It is my personal understanding and opinion only.
@Martinis Jackson I'm a CPA and what you are saying is not accurate.
A sole proprietor is a pass through and clearly included in the new tax plan benefits.
Yes, an LLC can make a different tax election, which a rental company would never do. And either way, the LLC itself changes nothing with taxes. You can make a different tax election with or without an LLC. Which again, wouldn't happen in this case with rentals.
ALL LLC's are disregarded. The IRS does not regard LLC's as an entity. When you have an LLC with more than one member the IRS regards it as a partnership, not an LLC. And again, there are zero benefits under the new plan for LLC's as opposed to sole props. ALL entities, except C Corps, are pass through entities. This includes sole props, partnerships and S Corps. Regardless of which one you are, you will receive the 20 percent reduction of profits under the new plan.
I'm not trying to pick nits here, there's just a lot of bad info out there on LLC's when it comes to taxes. There is zero tax benefit to having one and the IRS doesn't recognize an LLC as a taxable entity, whether it is one member or one thousand members.
The traditional wisdom is that an LLC taxed as an S-Corp (partnerships/proprietorships can't file as an S-Corp) saves you money when your business income is greater than what your salary would be if you were paid W-2, and an LLC taxed as a proprietor/partnership saves you money when your business operates at a loss and you have other personal earned income streams.
The new GOP tax plan for 2018 has largely leveled the playing field by introducing a 20% deduction of business income on your earned income (unless you are a professional service like a lawyer, accountant, or architect).
Here's a hypothetical business, taxed two different ways:
My LLC earns $250,000 in gross profit. My LLC pays $6,000 in rent & utilities, and depreciates $4,000 worth of a company car.
As an LLC taxed as an S-Corp (Proprietor/partnerships can't elect to submit taxes as S-Corp):
The structure of an S-Corp allows me to separate wages and distributions, and pay self-employment tax (SS & Medicare) only on my wages. My distributions are only taxed as income. If your business is earning more profit than your salary is worth (and in this case, you want to say your salary is as low as possible to avoid paying more self-employment taxes) this method will save you some money.
I paid myself $75,000 as my reasonable compensation (wages).
This leaves $165,000 to be distributed to the shareholders (me) and taxed on my earned income tax returns as pass-through income, but exempt from paying SS and Medicare tax. Furthermore, under the new tax plan I could deduct 20% of these dividend earnings from my income taxes, limited at 50% of my wage income.
Come tax time, I have $75,000 in taxable wages, and $165,000 in distribution income (essentially non-qualified dividends). First, I pay self-employment tax (SS and Medicare) at 15.3% only on my gross wages. Then, I add together my wages and distributions, deduct the lesser of 20% of distributions ($33,000) or 50% of wage income ($37,500), or else take the standard deduction ($12,000), and pay income tax on this - in this example you fall into the 35% tax bracket. Math below:
LLC's gross profit: $250,000
Expenses: $10,000
Wages: $75,000
Net: $165,000
Earned income tax return (2018)
Wages: $75,000
Distributions: $165,000
Deductions: -$33,000 ($165,000 x 20%)
Taxable wages: $75,000
Taxable income: $217,000
Income tax bracket: 35%
Income tax rate: $45,689 + ((Taxable income - $200,000) x 35%)
Taxes paid (2018)
Self-employment tax only on wages: $75,000 x 15.3% = $11,475
Income tax on wages + distributions: $45,689 + (($217,000 - $200,000) x 35% = $51,639
Total taxes paid: $63,114
Net income of you/LLC: $250,000 - $63,114 = $186,886
As an LLC not taxed as S-Corp, or proprietorship/partnership:
The difference here is that 92.35% of your LLC's profit is taxed with the 15.3% self-employment tax. There is no separation of wages and distributions. However, if your business is operating at a net loss and you are receiving income from other sources, this benefits you because you can deduct your loss from your other earned income.
Here I get to deduct 20% of my $240,000 income, and additionally I trigger the self-employment tax cap. I only pay Social Security tax (12.4%) on the first $128,700 of income, but I do have to pay the Medicare portion (2.9%) of the self-employment tax on all $240,000-minus-deductions. You'll notice in this example that I get knocked into a lower tax bracket, which is nice, but not always the case. As a note, if your income is over $200,000, you owe an additional 0.9% in Medicare tax on the amount exceeding $200,000.
LLC's gross profit: $250,000
Expenses: $10,000
Business income: $240,000
Business income subject to self-employment tax: $240,000 x 92.35% = $221,640
Earned income tax return (2018)
Income: $240,000
Deductions: $48,000
Taxable income: $192,000
Income bracket: 32%
Income tax rate: $32,089 + ((Taxable income - $157,501) x 32%)
Taxes paid (2018)
Self employment tax broken down as Social Security and Medicare:
Social Security tax: $128,700 x 12.4% = $15,959
Medicare tax: $200,000 x 2.9% + (($221,640 - $200,000) x 0.9%) = $5,995
Income tax (after deductions): $32,089 + (($192,000 - $157,501) x 32%) = $43,129
Total taxes paid: $65,083
Net income of you/LLC: $250,000 - $65,083 = $184,917
Besides the tax differences, LLC's theoretically offer legal protections for the company, as everyone's mentioned, so long as you prevent 'piercing the corporate veil'.
@Davidson Francois - not sure why I couldn't tag you in my post above.
@Davidson Francois there are several benefits to LLC's for buy and holds. If you don't have many mortgages, I would suggest getting loans in your personal name and doing a quit claim deed into an LLC for liability purposes (like if you got sued by the tenant) after you close. The reason for this is that you generally get loans that cash flow best for buy and holds, like 30 year fixed loans if you do them in your name instead of commercial (LLC).Deeding into your LLC name protects you from liability. The LLC could go bankrupt and you wouldn't in an extreme case. (Some may say that this is risky because the bank can call the note if they find out you did this, but they won't unless you don't make payments. Make on time payments.) I believe the limit of personal mortgages is 10 now. Or, if the property is more than 4 units you have to go commercial.
Commercial loans often times are more money down and for shorter terms and a slightly higher rate. You would most likely still have to be a personal guarantor for the loans too.Later, once you run out of personal mortgage loans and get a commercial loan and apply as your LLC for a loan, the terms aren't as good from a cash flow basis, but they don't show on your personal credit. In many cases you still have to be a personal guarantor.
Make sense? Hope this helps.