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Members of a limited liability company (LLC) that is treated as a partnership for tax purposes may take guaranteed payments from the company. These payments are generally made in return for services or capital the members have provided to the company and are separate from shared distributions of income generated by the LLC.
Learn more about these guaranteed payments, including how they are taxed.
Guaranteed payments are paid to LLC members (owners) regardless of whether the company has generated net income during a given time period. They ensure the LLC members will get paid a certain minimal amount even during periods when the company is unprofitable.
The payments are considered to be guaranteed because they are first-priority distributions that are paid out even if doing so would result in a loss for the company for a given time period.
Information about when and to whom guaranteed payments will be paid by a multimember LLC should be included in the company's operating agreement.
The payments are made in lieu of a salary, because the Internal Revenue Service (IRS) does not permit partners to act as employees of a partnership and receive a salary.
Members of an LLC that is treated as a partnership by the IRS are paid regular distributive shares of the profits generated by the company. They also may be paid through an owner's draw.
Members receive distributive shares of the profits of the business according to their ownership agreement, generally based on the amount of equity each one has in the business. For example, if Tom and Teresa each own 50 percent of an LLC, each might be paid 50 percent of the profits under their agreement. If the company made $80,000 in a year, each owner would be paid $40,000.
An owner's draw occurs when an owner or co-owner of an LLC takes money from their owner's equity—the accumulated funds the owner has put into the business plus their shares of profits and losses. Draws are typically carried out by the owner writing out a check to themselves. They can be taken on a regular schedule or as needed.
Guaranteed payments are not subject to payroll taxes. However, members who receive guaranteed payments must pay income and self-employment taxes—for Social Security and Medicare—on them quarterly, on an estimated basis, and when they file their individual federal tax return. The IRS generally treats them as ordinary income, and they are typically tax-deductible by the LLC as a business expense.
The company enters the amount of its guaranteed payments on line 10 of IRS Form 1065, U.S. Return of Partnership Income. It also enters its total guaranteed payments—as well as separate entries for guaranteed payments for services and for capital—on its Schedule K-1.
The members report their guaranteed payments—as well as their distributive shares—on Schedule E of IRS Form 1040 as ordinary income.
Some municipalities, including New York City, impose a tax on unincorporated businesses, including LLCs, that operate there.
You may want to seek the advice of financial and legal professionals before signing an operating agreement that establishes when you will receive guaranteed payments.
The information contained in this article is not tax or legal advice and is not a substitute for such advice. State and federal laws change frequently, and the information in this article may not reflect your own state’s laws or the most recent changes to the law. For current tax or legal advice, please consult with an accountant or an attorney.
