Consultant’s Corner: Salaries for LLC Members

Q. Can an LLC pay one of its members a salary? Is that what guaranteed payments are?

Single and multi-member or owner LLCs taxed as corporations (C or S types) are generally required to pay their members who hold executive officer positions and manage the day-to-day business of the LLC, or otherwise work in their businesses, a reasonable W-2 salary in order to comply with IRS rules.

A single member LLC taxed as a sole proprietorship (a disregarded entity) does not pay its member a W-2 salary. Nor does it pay its member guaranteed payments. Instead, its member takes periodic cash draws of the business profits which the LLC cannot deduct as a business expense.

A multi-member LLC taxed as a partnership does not pay its members a W-2 salary.  The members generally take periodic cash draws of their shares of the LLC’s profits which the LLC cannot deduct as a business expense.

However, multi-member LLCs taxed as partnerships can elect to pay their members guaranteed payments, which are akin to salaries and a tax deductible business expense for the LLC. Guaranteed payments can be a method for an LLC taxed as a partnership to compensate its members who work in the business and need to draw regular compensation. It is important to understand, however, that guaranteed payments cannot be based upon a member’s LLC profit sharing percentage.

To develop a better understanding of guaranteed payments, you can review IRS and related information on guaranteed payments at the following websites:

https://www.irs.gov/publications/p541/ar02.html#en_US_201601_publink1000104261

http://www.varnumlaw.com/blogs/varnum-etc/guaranteed-payments-the-equivalent-of-a-salary-for-llc-members-and-partners/

http://tax.cchgroup.com/downloads/files/contemporary-tax-practice/m1-partnership-taxation/t3-reporting-partnership-income-guaranteed-payments/d-determining-partnership-guaranteed-payment-deduction-allocation.asp