You now have an established business in California and it’s doing good, but like all business owners, you wish that you can pay less tax.

If you are an LLC member or a corporate shareholder, you may have thought of decreasing your income tax liability by giving yourself a salary. But it begs the question, can you be an employee of your own LLC? While it is a legitimate method of avoiding tax, it’s not applicable to all types of business structures.

The distinction between being an LLC owner and an employee can be confusing. These blurred lines may present an issue depending on your business setup. Sometimes, giving yourself a salary can be pointless and of no benefit at all. Before looking for ways to reduce your tax burden, let’s start with drawing a line between being an owner and an employee.

Generally, LLC Members Cannot Be Considered as Employees  

If you are an LLC member and you do some type of work for the company, generally you are not considered an employee of your own LLC. 

As an LLC member or an owner, the amount you withdraw from the LLC is not necessarily wage reported in Form W-2 (a form that shows annual wages). 

Can a Member of a Single-Member LLC be Considered an Employee of His Own LLC?

A single-member LLC is normally treated as a sole proprietorship. A sole proprietorship is the simplest business structure; it consists only of an individual who is inseparable from the business itself.  

You and your sole proprietorships are one and the same. Giving yourself a salary is literally taking money out of your pocket and putting it in the other. 

Whatever money the business has is your money, and the business profits are your income, and you pay the income tax. 

That’s why giving yourself a wage would have no tax impact at all if your business is a single-member LLC. 

Can a member of a Multi-member LLC be considered an employee of his own LLC? 

It depends. For a multiple-member LLC that is not treated as a corporation, the rules applicable to partnerships apply. In such a case, the members are still not treated as employees of their own LLC and therefore do not receive wages. 

A multi-member LLC that is not treated as a corporation does not pay tax.  What happens is that each member receives a share of the profits based on his interest in the company (partnership), and each of them pays their own income taxes. 

Ultimately, there would be no practical use in trying to decrease your LLC’s income by giving yourself wages, as LLCs are not taxed, only their members. 

What if the LLC has elected to be treated as a corporation?

If you want to be an employee of your own LLC and receive wages from your business, the way to do it is to have an LLC that is treated as a corporation for tax purposes. 

A corporation, unlike a sole proprietorship, is a legal entity separate from its owners or shareholders. This means that there can be a contract between you and your corporation, and this contract can be one between an employer and an employee.  

In this scenario, you can receive wages or W-2 income, and the corporation handles withholding income and payroll taxes.   

If you are an owner/shareholder, this is the scenario where paying yourself wages would have a practical purpose. Why? Because the corporation is taxed separately from you, the shareholder, and wages paid by the corporation will reduce its taxable income. 

When is it more beneficial for an LLC to be taxed as a corporation rather than be treated as an LLC? 

LLCs are not taxed on their income, but the members file their own individual tax returns which include the income they get from the LLC.  Sometimes the income you receive from the LLC is so high that you end up paying more tax than what you will pay, had the LLC been taxed as a corporation. The underlying reason is that the highest personal income tax rate is higher than the highest corporate tax rate. 

However, if the LLC elects to be taxed as a corporation, not only will the corporation pay for corporate income tax, you as the shareholder will pay tax on the dividends you received from the corporation.  

So, which do you choose? It all depends on your projected or expected income. That’s why it’s a good idea to consult an accountant if your expected income reaches the highest applicable income tax rate. 

The Pros And Cons Of Giving Yourself A Salary Are Ultimately Dependent On Your Particular Situation.

There are many ways to minimize your business’ income tax liability, and giving yourself a salary is a good idea, but that practice is not applicable to every type of business structure. Being an employee of your own LLC has a practical purpose only if that LLC is treated as a corporation. 

If you don’t want your LLC to be taxed as a corporation then it will be treated either as a single-member LLC or a multi-member LLC. The benefit you’ll get is that your LLC wouldn’t be taxed at all. You would have to weigh the pros and cons of not having your LLC taxed as a corporation or being able to decrease corporate tax liability by receiving wages from the business. It all depends on the situation.  

This is what Incorporation Attorney is here for. If you want to determine if there would be any significant benefit at all in choosing either an LLC or a corporation tax treatment, give us a call at +1 (714) 634-4838!