Choosing to Be a Sole Proprietor or a Disregarded LLC

May 29, 2012

While you may not want to be disregarded in your personal life, there are times when it might be smart to designate your business as a Disregarded LLC.

A Disregarded LLC, also called a Disregarded Entity, is a limited liability company (LLC) owned by an individual. LLCs are typically partnerships with liability protection. Unless the individual chooses otherwise, the IRS treats the designation as a sole proprietorship and doesn’t tax the LLC. Rather, profits from the LLC flow through the owner’s personal taxes.

Benefits of a Disregarded LLC
If you’re a business owner, there are a few benefits to designating your entity as a Disregarded LLC. First, like with a multiple-member LLC, the entity protects against personal liability. You’ll also obtain the tax advantages of a corporation, including limited liability without having to pay for double taxation. As the owner of a Disregarded LLC, you may report business income on your taxes which can help streamline record-keeping.

Disadvantages of a Disregarded LLC
If you have a business that is generating income, there may be bigger tax implications in choosing a Disregarded LLC. This can include having to pay all of your own payroll taxes. Also, the chances of an IRS audit are slightly higher when you choose this type of entity for your business.

Some business owners avoid operating as a Disregarded LLC by taking on a partner, even if they only receive two percent of the business. Keep in mind that the IRS considers you and your spouse as one, so the partner would have to be someone else, even if it’s a close family member.

Before deciding on an entity for your business, it makes sense to sit down with a knowledgeable accountant to discuss the pros and cons and what’s best for your particular situation. This will include looking at your business objectives and risk tolerance. To find out more about Disregarded LLC entities, contact Wallace & Associates today.