Tax Advantages of a Single Owner LLC Business Entity

By Cindy Hill

A limited liability company, or LLC, is a form of business structure authorized by state law. An LLC is not a business entity recognized by the Internal Revenue Service for tax purposes. Rather, an LLC must elect to be taxed as one of the business entities classified by the IRS. LLCs owned by a single member may elect to be taxed as a corporation or sole proprietorship disregarded entity, which conveys significant tax advantages.

Taxation Entity Election

A single-member LLC will be taxed as a sole proprietorship disregarded entity under IRS default rules, unless the LLC owner chooses to be taxed as a corporation. A single-member LLC owner can elect to be taxed as a corporation by filing IRS Form 8823, Entity Classification Election. Once the election is made to change the LLC's tax status from sole proprietorship to corporation, it cannot be changed again for five years. The owner of an LLC maintaining sole proprietorship tax status has liability protection akin to that offered by a corporation, but with the tax benefits of a disregarded tax entity.

Simplified Tax Filings

A single-member LLC taxed as a sole proprietorship does not have to file a separate business tax return. LLC income and expenses are reported on Schedule C of the owner's Form 1040 individual income tax return. By avoiding the complexity of filing a corporate return, a sole proprietor can save hundreds or even thousands of dollars in tax return preparation costs.

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Avoid Double Taxation

Electing to be taxed as a sole proprietorship avoids the double taxation that would result if the LLC were taxed as a corporation. Under a traditional corporate business structure, or with an LLC that elects to be taxed as a corporation, the business will be subject to double taxation: Business proceeds are taxed first at the corporate level as corporate income, then at the personal level as income to the individual working for the corporation. A single-member LLC opting to be taxed as a sole proprietorship is a disregarded entity that enjoys pass-through taxation; that is, business income taxed only once at the personal income level.

Additional Advantages

Single member LLCs that do not elect to be taxed as corporations may take advantage of additional tax benefits available only to sole proprietorships. One of these advantages is that a sole proprietor can employ her minor children without paying any payroll tax. Hiring your teenager and paying him wages rather than taking in the money as personal income and paying the teenager an allowance can increase the net family income and lower the family's tax liability significantly. Another unique sole proprietorship tax advantage is the ability of the sole proprietor to hire her spouse and provide the spouse with a healthcare reimbursement arrangement, which is tax-deductible.

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How to Change an LLC Filing as an S Corp to a Sole Proprietor
 

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