Federal Tax Classification of LLCs
As mentioned earlier in this section, limited liability companies do not have their own federal tax classification. The flowchart above can help you determine what your classification is for your IRS tax return.
LLCs are organized under state law and are not recognized as a specific entity for federal tax purposes. Therefore, for federal purposes, a state LLC is classified as a sole proprietorship, partnership, or corporation.
An LLC can opt for a default classification or elect to be classified as a corporation for Federal tax purposes. (Reg §301.7701-3)
Single Member Limited Liability Companies
A single member LLC (SMLLC) defaults to be a “disregarded entity” (sole proprietor – Schedule C, E or F) or can file Form 8832 – “Entity Classification Election” – to elect to be taxed as a corporation.
Default Classification
An LLC is classified for federal tax purposes under the default rules unless it files Form 8832 or Form 2553, Election by a Small Business Corporation, to be classified as a corporation. The default classifications are:
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Sole proprietorship for one member LLCs (C, E of F)
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Partnership for multi-member LCs (1065). “Multi-member” means 2 or more members.
An eligible entity uses Form 8832 to elect how it will be classified for federal tax purposes: as a corporation, a partnership, or an entity disregarded as separate from its owner.
Making the Election to be Taxed as a Corporation
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When to File - An election specifying an eligible entity’s classification cannot take effect more than 75 days prior to the date the election is filed, nor can it take effect later than 12 months after the date the election is filed.
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Late Election Relief - A newly formed entity may be eligible for late election relief under Rev. Proc. 2002-59, 2002-39 I.R.B. 615 if:
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The entity failed to obtain its desired classification solely because Form 8832 was not timely filed,
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The due date for the entity’s desired classification tax return (excluding extensions) for the tax year beginning with the entity’s formation date has not passed, and
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The entity has reasonable cause for its failure to make a timely election.
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To obtain relief, a newly formed entity must file Form 8832 on or before the due date of the first federal tax return (excluding extensions) of the entity’s desired classification. The entity must also write “FILED PURSUANT TO REV. PROC. 2002-59” at the top of the form. The entity must attach a statement to the form explaining why it failed to file a timely election. If Rev. Proc. 2002-59 does not apply, an entity may seek relief for a late entity election by requesting a private letter ruling and paying a user fee in accordance with Rev. Proc. 2006-1, 2006-1 I.R.B. 1 (or its successor).
Form 8832
The IRS Form 8832 has several uses. The following is an overview of those uses.
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If the LLC initially is to be a default entity (1065, C, E or F) the Form 8832 does not need to be filed.
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If the LLC initially is to be a corporation the 8832 (or the 2553 in the case of an S-Corporation) is used to elect to be taxed as a corporation.
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If the LLC wants to change its previous election.
CAUTION – 60 Month Rule
The entity generally cannot change its classification by election again during the 60 months after the effective date of the election. However, the IRS may (by private letter ruling) permit the entity to change its classification by election within the 60-month period if more than 50% of the ownership interests in the entity, as of the effective date of the entity’s prior election.