How To Pay Yourself As An LLC (And Lower Taxes)

Knowing how to pay yourself as an LLC owner is extremely important. How you pay yourself will directly impact your personal finances and the amount of taxes you pay.

Many LLC owners pay themselves without understanding the consequences of both. They take money out of their LLC without understanding the tax consequences.

Or they pay themselves so much that they do not have enough money to pay their taxes, or other liabilities.

To avoid these mistakes, this post will provide you with guidance on how to pay yourself appropriately.

In order to understand how to pay yourself as an LLC, you must first understand the rules associated with the type of LLC you own.

What is an LLC?

---

An LLC is a business structure that limits the legal liability of the persons who own the entity.

Without an LLC, any business losses may result in garnishments of your personal assets.

People form LLCs to limit this risk. Hence the name, “limited” liability company.

What is Your LLC’s Tax Classification?

---

Before determining how much to pay yourself from your LLC, you must first identify your LLC’s tax classification. You may be taxed as an:

• LLC taxed as a Sole Proprietorship
• LLC taxed as a Partnership
• LLC taxed as a S-Corporation
• LLC taxed as a C-Corporation

By default, your LLC is likely taxed as a Sole Proprietorship or Partnership.

It simply depends on how many members (owners) it has:

• Single-member LLC: Owned by one individual and is taxed similar to a sole proprietorship
• Multi-member LLC: Owned by two or more individuals and is taxed similar to a partnership

Both, single-member LLCs and multi-member LLCs are taxed as “disregarded” entities by default.

This means that the income earned by the entities are “disregarded” for tax purposes.

Instead, the income passes through to the members’ individual tax returns and is taxed to each owner in respect to their ownership interest in the company.

However, IRS classification rules give LLCs flexibility in how they want to be taxed. They can choose to be taxed as an:

• S-Corporation: which is taxed as a pass-through entity similar to “disregarded entities” and not subject to self-employment tax
• C-Corporation: which is taxed separately as an entity and is subject to corporate income tax

How you pay yourself from your LLC will depend on its tax classification. Therefore, you must determine this first in order to choose the correct method to pay yourself.

Furthermore, you may find it beneficial to change your tax classification to reduce your taxes.

Choosing How Your LLC is Taxed

---

LLCs are unique because you can choose how you want your entity to be taxed for tax purposes.

Here are some general guidelines to choosing how your LLC will be taxed:

• As a Sole Proprietorship or Partnership: Beneficial when net income is less than $50,000
• As an S-Corporation: Beneficial when net income is above $50,000 (may lower self-employment tax burden)
• As a C-Corporation: Beneficial when your corporate income and dividend tax is less than total individual tax rate

Each tax status is subject to a different set of rules and requirements, and it’s important that you understand what is required from the tax status you currently have.

Ultimately, the way your LLC is taxed will directly influence how you actually pay yourself from your business.

You should seek a good Tax CPA should be able to help you determine the best entity structure for your business.

How To Pay Yourself From an LLC

---

The method you choose to pay yourself from your LLC will depend on your entity’s tax classification. Here is how to pay yourself from each type of LLC.

#1: Paying Yourself as an LLC Taxed as a Sole Proprietorship or Partnership

Most LLCs are taxed as a Sole Proprietorship or Partnership.

Under this method, you can pay yourself using an “owner’s distribution” or “owner’s draw.”

This simply means withdrawing cash from the business and paying it to the owners.

You can do this by transferring money from the business account to your personal account, withdrawing cash, or writing yourself a check. 

How are owner distributions taxed as LLC?

When your LLC is taxed a “disregarded entity”, the IRS views you and your LLC as one for tax purposes.

Therefore, money you pay yourself from your LLC is not subject to income taxes. It is irrelevant.

Instead, your income tax will be based on the income your business reports.

You must report all of your business income when you file your taxes. Then, your share of the business income is taxed on your individual tax return.

This means that even if you do not pay yourself at all from your LLC, you may still be subject to income taxes.

Additionally, you may be subject to self-employment taxes which is an additional 15.3% tax on your business income.

When you operate as the default LLC tax classification, you have the most tax exposure.

These entities are required to pay federal income tax, state income tax, and self-employment taxes, which other entities don’t have to pay.

Let’s examine those other entities.

 #2: Paying Yourself as an LLC Taxed as a S Corporation

When your LLC is taxed as an S-Corporation, you are required to pay yourself a reasonable salary, subject to payroll taxes, before taking owner distributions.

Basically, as a shareholder-employee you should be paid:

• A W-2 Salary: for the work you do in the company
• Owner distributions: for the ownership stake you have in the company

To do this, you must first set up a payroll and pay yourself a salary subject to payroll taxes. 

Then, you can take the owner’s distributions and pay yourself from the remaining profits in the business, if you choose to.

As far as the W-2 salary is concerned, it must be “reasonable” based on services that you provide to the S-Corporation.

The amount you pay yourself in wages should reflect the amount to pay someone to perform similar work for your company.

Once that is done, you may pay yourself distributions from your S-Corp.

Benefits of S-Corporations

S-Corporations are favored amongst small business owners because: 

• they do not pay self-employment tax 
• they are not subject to double taxation like C-Corporations

Instead, shareholder-employees pay payroll taxes on their W-2 wages.

And the payroll taxes they pay may be much less than their self-employment tax liability if they were not an S-Corporation.

How Are S-Corp Distributions Taxed?

Non-wage distributions from your S-Corp are not taxed, as long as distributions do not exceed your basis in the S-Corp.

Your basis reflects your personal investment in the S-Corp and the income it earns. If your distributions exceed this amount, you may trigger a capital gains tax.

If your distributions do not exceed your basis, you will pay no tax on it.

Instead, as an S-Corp, you will pay tax on:

• S-Corp Income: your share of S-Corp income will be taxed on your individual tax return
• Wages: your wages from the S-Corp will be subject to payroll taxes

#3: Paying Yourself as an LLC Taxed as a C Corporation

To pay yourself as a C-Corporation, you would pay yourself:

• A W-2 Salary: for services you perform in your C-Corp
• Dividends: for shares you own in your C-Corp

Shareholders of C-Corporations do not take owner distributions. Instead, they take dividends.

How Are C-Corp Dividends Taxed?

Unlike the other entities, C-Corps are subject to corporate income tax on the federal and state level.

So when your business earns income as a C-Corp, it will be taxed on the entity level.

Then, when your business distributes cash to its owners, it will be taxed as dividend income.

Therefore, how you choose to pay yourself from your C-Corp is a dynamic equation.

It should consider all of the different taxes you will pay based on the method you choose.

Benefits of C-Corporation

If total taxes from your C-Corporation is less than the total tax you would pay under the other entities, it may advantageous for you.

Typically, C-Corporations are beneficial when:

• It distributes less dividends (ex: reinvesting back into the business)
• It distributes qualified dividends (ranging from 0-20%)
• It plans to go public

Filing Taxes As An LLC

Your LLC’s tax classification will also determine which tax forms you will need to complete at tax time.

LLCs taxed as Single-Member LLCs will file their business taxes on Schedule C of their individual tax returns.

Single-member LLCs are not required to file a separate tax return for their business. Their business income is reported as part of their individual tax return.

LLCs taxed as Multi-Member LLCs will need to file Form 1065 (K1), the Partnership Income Tax Return. This is a separate tax return, typically due 1 month before the individual tax return.

The business must file its tax return first.

Then, each owner (member) will then report their share of the LLC’s income, credits, and deductions on Schedule K-1 attached to their personal tax return. 

LLCs taxed as S-corporations file their taxes with Form 1120S, the S-Corporation Income Tax Return.

The S-Corp must file their taxes first. Then, owners report their share of income on Schedule K-1 similar to partnerships..

Finally, LLCs taxed as Corporations will file Form 1120, the Corporate Income Tax Return.

In this case, the LLC itself is taxed separately from its owners. The entity’s income would be subject to corporate income tax.

Then, shareholders of the corporation would only report income they have personally received from the corporation, if any.

It’s important that you understand these filing requirements because getting it wrong can lead to penalties and headaches. 

The rules can seem confusing at first, but once you know how your LLC is classified, the filing process is straightforward. 

If you need more guidance, the IRS Publication 3402 provides additional details on LLC tax filing.

How Can An LLC Lower its Taxes?

---

As described earlier, one you can significantly reduce your LLC taxes by choosing the best tax classification for your LLC.

In addition to this, there are several ways an LLC can lower its tax bill, most of which aim to reduce the taxable income of the LLC owners. 

Here are some of the most popular ways.

Claim LLC Deductions

As an LLC, most expenses related to the business are tax-deductible. To lower the business’s taxable income, it makes sense to claim as many business expenses as possible. 

You can then deduct these expenses from the LLC’s gross income, reducing the overall tax burden.

The IRS allows LLCs to deduct start-up costs like marketing materials, travel, permits, legal fees, and research.

 After that, you can deduct various operational costs, including:

• Computers, printers, and office supplies
• Phone and internet bills
• Website development
• Graphic design (branding, logos, business cards, etc.)
• Business meals and entertainment
• Travel expenses
• Uncollected debts
• Medical and healthcare expenses
• Property or rent payments
• Tools and technology
• Self-employment taxes

Set up Retirement Accounts

LLCs can establish retirement plans like SEP-IRAs, Solo 401(k)s, traditional/Roth IRAs and 401Ks, or SIMPLE IRAs. 

These contributions may be tax deductible if made to a Traditional retirement plan.

Each option has pros and cons, but give you options to defer or reduce your taxes in profitable years.

File as an S Corporation

LLCs can elect to be taxed as an S-corporation. 

A key benefit is reducing self-employment taxes.

This means that the LLC owner is treated as an employee paid a salary, which gets taxed for payroll purposes. 

The remaining profits are distributed as dividends, not subject to self-employment tax.

Use the Qualified Business Income (QBI) Deduction

The Qualified Business Income (QBI) deduction is another deduction available to eligible pass-through entities like an LLC or S corp. 

The QBI deduction is up to 20%, depending on total taxable income and can be taken in addition to standard and itemized deductions.

You will automatically qualify for this deduction if you earn less than $180,000 or $360,000 with a spouse as of 2024.

If you earn above this amount, you may still qualify but there are more stringent requirements that relate to the type of business you do.

For example, you must be a “qualified” trade or business.

The IRS excludes “specified services” from the deduction, which they define as businesses that rely on the reputation of the owner.

To claim all available tax deductions, apply to work with one of our online CPAs to get a plan that is guaranteed to reduce your tax bill.

The Bottom Line

---

At the end of the day, knowing how to properly pay yourself from your LLC is crucial for your finances and tax situation. 

While transferring money from your business account to your personal one may seem simple, you must consider important factors based on how your LLC is taxed.

By understanding the different methods and implications of paying yourself as a sole proprietor, partnership, S-corp, or C-corp, you can optimize your income and minimize your tax burden. 

Don’t hesitate to consult with a tax professional to ensure you’re doing things correctly and taking advantage of all available deductions and strategies for lowering your LLC’s taxes. 

With the right approach, you can enjoy the rewards of your hard work while keeping more of your hard-earned money.