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Owning a Limited Liability Company (LLC) comes with many demands. One of the things you have to be aware of is the tax obligation.
According to the Internal Revenue Service (IRS), LLCs should issue Schedule K-1 each year. However, the decision to issue a K-1 or not largely depends on how your entity is structured.
Read on and learn what a Schedule K-1 is and whether your LLC needs to issue one.
What Is a K-1?
A Schedule K-1 is an IRS form used to report the income, losses, credits, and deductions for pass-through entities. The IRS also requires beneficiaries of trusts or estates to file a K-1.
Pass-through entities are businesses that allow income and losses to flow directly to the owner. Examples of such entities include:
- Sole proprietorships
- S-corporations (S corps )
- LLCs taxed as an S corp or partnership
Most flow-through businesses don’t pay corporate taxes on their incomes. Instead, their tax liabilities are shifted to their owners or shareholders.
How Is a Schedule K-1 Issued?
LLCs that aren’t treated as disregarded entities submit Form 1065 and Schedule K to the IRS at the end of every fiscal year. Form 1065 is an informational return that reports the company’s income, while Schedule K shows how the income share gets distributed among shareholders.
After distributing these documents to the IRS, an LLC will issue a Schedule K-1 to its owners.
Schedule K-1 allows each shareholder or partner to report their share of gains, losses, credits, and deductions to the IRS.
When to File Schedule K-1
Your business should issue the K-1 form to all its shareholders by March 15 each year. This is before individual partners/shareholders file their taxes.
The due date is September 15 if you file for an extension using Form 7004. In such cases, individual partners and shareholders must also file for an extension on their returns.
Types of Schedule K-1 Forms
Different entities issue distinct Schedule K-1 forms. So, the type of form you fill will likely depend on the structure of a business. Below are the three types of Schedule K-1 forms.
- Form 1041 Schedule K-1: Beneficiaries of estates or trusts mostly use this form.
- Form 1065 Schedule K-1: This form is common in partnerships.
- Form 1120S Schedule K-1:Shareholders of S-corps use this form.
Sections of Schedule K-1
Although K-1 forms vary depending on the type of business, they still have some shared sections.
Below are three vital sections.
Part 1: Information About the Entity
This section carries vital information about the business issuing the K-1. Here, you’ll encounter things such as the:
- Business name
- Whether the business is a Publicly Traded Partnership (PTP)
Part 2: Information About the Partners/Shareholders
In this section, you’ll find information about shareholders/partners. This includes names, tax IDs, addresses, to name a few.
Part 3: Financial Details
This section shows the gains, losses, deductions, and credits the partner/shareholder made from the business.
Which LLCs Need to Issue a Schedule K-1?
Not all LLCs have the same tax liabilities. Here’s how different LLCs are taxed.
When it comes to taxation, the IRS treats single-member LLCs as sole proprietorships. The IRS views such LLCs as disregarded entities, meaning all their activities must reflect on the owner’s tax return.
Single LLCs don’t need to issue a Schedule K-1. As the owner, you should report the business’s gains and losses on Schedule C, then submit it together with the 1040 tax return.
The taxation of multi-member LLCs is similar to that of partnerships. These LLCs don’t pay taxes on their incomes. Instead, they submit Form 1065 to the IRS.
Each LLC owner reports their distributive share on their income tax returns. The owners must attach Schedule E when filing individual returns.
The distributive share is the net income that passes from the business to its co-owners. Each LLC member has to pay taxes to the IRS based on their distributive share.
Since multi-owner LLCs behave as partnerships, they must issue a Schedule K-1 to all the co-owners.
LLCs Taxed as C Corporations
LLCs can elect to be treated as C corporations. This scenario is common in businesses that keep retained earnings.
You can elect corporate taxation by filing IRS Form 8832, Entity Classification Election, and selecting the corporate tax treatment option. LLCs that get taxed as C corps don’t have to issue a Schedule K-1.
LLCs that choose this option undergo double taxation. First, they pay a 21% corporate tax on all their incomes. Second, the owners/shareholders pay taxes based on the dividends they receive. The individual taxes on capital gains can be as high as 23%.
That said, there are certain scenarios where such LLCs can avoid double taxation. If an LLC has retained earnings, these earnings aren’t subject to double taxation. They remain tax-exempt until they get paid out as bonuses, dividends, or salary.
LLCs Taxed as S Corporations
LLCs can also choose to be taxed as S corps. Like partnerships, gains and losses in S corporations flow to its owner’s tax returns. So, the S corp files Form 1120, while its shareholders receive Schedule K-1. The shareholders then have to prepare Schedule E with their tax returns.
Unlike a partnership, an S corp can treat its owners as employees and pay them salaries.
Such owners aren’t self-employed and won’t be subject to self-employment tax. In partnerships, each partner has to pay self-employment tax.
As an employee, the owner of an S corp can take the 20% Qualified Business Income (QBI) deduction. This lowers the taxable income.
LLCs that elect to be taxed as S corps avoid double taxation. However, such entities have to meet strict requirements. To qualify for this taxation, an LLC has to have:
- Less than 100 members
- Only one class of stock
- Individual shareholders (not businesses)
- Resident shareholders (USA)
Where To Get K-1 Forms
As a shareholder, you will receive the Schedule K-1 form from your LLC before March 15, every fiscal year. LLCs can find the Schedule K-1 forms on the IRS website.
The Last Word
Those are the basics on the Schedule K-1 and how to think about it as an LLC owner. Have questions? Feel free to drop us a line, we’re always happy to help point you in the right direction.
Filed under: Advice Columns