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socrateaser
socrateaser, Lawyer
Category: Tax
Satisfied Customers: 33376
Experience:  Retired (mostly)
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Husband & I are joining an LLC for a website as majority owners.

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Husband & I are joining an LLC for a website as majority owners. My husband is going to stay on staff at his other W-2 job until the LLC is profitable. Our AGI was $65k with the w-2 job last year. Husband & I don't know how to split up our 88% of the website LLC for taxes. We live in a community property state, so it is okay if one of us is just hired by the LLC. In fact, we also have another LLC for web design that can be hired by the the website LLC, but both of our names are XXXXX XXXXX web design LLC. We are also not opposed to small, guaranteed payments since my husband has another job, but I just want to make sure we are doing the right thing since we will both be materially participating in the business for now and we are unsure when it will turn a profit. Please let me know if you need clarification. We basically have the question of what is best for taxes for husband/wife LLC's in a community property state where we won't rely on this LLC for income at the moment.
Submitted: 2 years ago.
Category: Tax
Expert:  socrateaser replied 2 years ago.
Note: I'm not sure about the reason for your comment re business lawyer vis-a-vis CPA, however just for clarification purposes, a CPA cannot draft an LLC operating agreement, because to do so is the unauthorized practice of law. A CPA can advise on accounting and tax preparation. A lawyer can advise on contracts/agreements/law and tax preparation. But, a CPA cannot adivse on legal matters, including contracts/agreements, and a lawyer cannot advise on accounting practices.

Okay, where were we...?Cool

First, an LLC owner is not an employee of the LLC, unless the LLC expressly hires an owner as an employee of the LLC. Otherwise, LLC profits generally pass through to each owner in proportion to their respective investment in the LLC, and are reported to each owner on a Partnership 1065, Form K-1.

Profits/Losses may be either ordinary income or passive, dependent upon material participation rules (500 hours personal services for the LLC during the tax year). If participation is passive, then LLC losses cannot offset ordinary income -- which includes W-2 wages/salaries.

Where community property is involved, LLC profits/losses affect each spouse's share of the community estate jointly. Spouses can avoid this outcome only by filing their tax returns as "married-separate."

Under your alleged facts, since you are not material participants in the business, it makes no difference how you report the LLC losses, because those losses cannot offset W-2 wages/salaries. So, the only question is whether or not there are other issues that may argue in favor of filing taxes as married-separate. The only thing, frankly, that comes to mind, would be if one spouse believes that the other may not be properly reporting taxes, so that the risk of being involved in some sort of tax fraud conspiracy is mitigated. Other than that, I see no reason not to file tax returns jointly.

If you have some specific concern, feel free to clarify.

Hope this helps.

NOTICE: My goal here is to entertain while educating the public about the law. I hope my answer is useful and informative to you. During our conversation, the website may ask you to rate my answer. If you rate my answer lower than the middle rating, then the website retains your entire payment, and I receive nothing. It is entirely your choice as to how you rate my answer. However, because your payment to me is in the nature of a donation/gift, rather than as compensation for any services rendered, you are entitled to know how your rating affects the final distribution of your donation.

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Customer: replied 2 years ago.
I think I originally said that we ARE both materially participating in the business. Sorry for the jumbled description. If we both materially participate, I was wondering if it is best for one of us to be hired by the LLC instead of both being liable for self employment taxes when my husband has another job anyway.
Expert:  socrateaser replied 2 years ago.
Oh...my apologies -- I guess I need new glasses (though, new eyes would be better).Cool

Ah, employment taxes. Two sides to this story.

1. If you are hired by the LLC, then you will have additional payroll taxes (unemployment, workers compensation). This would reduce the LLC's net profit, so that could be an offsetting factor weighing against being hired.

2. Self-employment tax is owed by owners in an LLC in proportion to each owner's distributed share, regardless of whether or not the owners are married and residing in a community property state. The advantage to being hired is that the spouse receiving W-2 wages/salary will only owe one half of the FICA payments. However, if you are also the owners of the business, then you're paying the entire amount whether or not you are hired -- it's just coming out of a different pocket.

The calculation for a break-even would be pretty complex, but in general, the more owners of the LLC, the small proportion that you and your spouse would be paying of that one half of FICA, which would make a W-2 relationship a better deal than a straight profit distribution.

If you have 5 or more partners, my "cocktail napkin" calculation suggests that it may be better to be a W-2 employee, because the other owners will have to absorb the FICA costs. Otherwise, I suspect that being an employee will end up costing more than it's worth. Also, if there are no other employees, then trying to account for employment taxes, is costly and a pain in the administrative butt. This can create some unnecessary substantial additional costs, even if you're trying to "do-it-yourself."

Hope this helps.

NOTICE: My goal here is to entertain while educating the public about the law. I hope my answer is useful and informative to you. During our conversation, the website may ask you to rate my answer. If you rate my answer lower than the middle rating, then the website retains your entire payment, and I receive nothing. It is entirely your choice as to how you rate my answer. However, because your payment to me is in the nature of a donation/gift, rather than as compensation for any services rendered, you are entitled to know how your rating affects the final distribution of your donation.

If you need to contact me again, please put my user id at the beginning of your question ("To Socrateaser"), and the system will send me an alert. Please Click the following link for IMPORTANT LEGAL INFORMATION. Thanks and best wishes!

socrateaser, Lawyer
Category: Tax
Satisfied Customers: 33376
Experience: Retired (mostly)
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