The Basics of LLC Guaranteed Payments by Brette Sember, J.D.

The Basics of LLC Guaranteed Payments

Guaranteed payments by an LLC to a member allow the member to receive regular payments. Discover how these payments are treated by the IRS and how they differ from other types of payments.

by Brette Sember, J.D.
updated June 26, 2019 · 2 min read

Unless a limited liability company (LLC) chooses to be taxed as a corporation, it enjoys the benefit of pass-through taxation. This means that, instead of the LLC itself paying taxes on income, the individual members pay tax on their portion of the profits. LLC members can receive either profit-sharing distributions or a nonsalary payment known as guaranteed income.

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Distributive Payments

LLCs transfer their profits to the members, who receive distributions equal to their ownership shares. For example, a member who owns a one-third ownership interest would receive one-third of the profits. Profits can only be distributed when the LLC actually makes money, so if there is no profit, there is no distribution. The LLC reports distribution income using Partners' Share of Income, Deductions, Credits, Etc. (Schedule K-1), which is given to each member. Members then report this income on their U.S. Individual Income Tax Return (Form 1040) with Supplemental Income and Loss (Schedule E) attached.

Guaranteed Payments

Members of an LLC may need an ongoing income, as profit-sharing does not happen weekly or monthly. In these situations, members can receive what are called guaranteed payments, which differ from a salary in that they do not subject the LLC to regular income and FICA taxes. Instead, a guaranteed payment is a tax-deductible expense by the LLC that reduces the business's net profit and is reported on U.S. Return of Partnership Income (Form 1065). For the member, guaranteed payments are treated as income subject to estimated income taxes and self-employment taxes. Guaranteed payments are made whether the LLC is turning a profit or not.

The LLC's operating agreement should contain information about guaranteed payments, as it's common practice for managing members to receive them. Note that a member may receive both a salary, if he has a job within the LLC, and guaranteed payments for his role as an owner. These payments are treated differently when it comes to taxes.

Draw Payments

Another way an LLC member can be paid is through a draw, which is different from a guaranteed payment. A draw is a regularly scheduled payment, but it's meant to be a prepayment of profit. The draw is paid out of the member's equity and, when a distribution is issued, the equity account is paid back with the profit share. Any remaining profit would be distributed. This type of payment is taxed like a regular distribution and reported on the individual member's income tax form. For example, a member could get a draw of $1,000 per month. If the member's yearly distribution is $13,000, $12,000 of that has already been paid as a draw, so the member would receive $1,000 as the remainder of the distribution.

Guaranteed payments from an LLC to a member can give the member financial stability while waiting for the LLC to become profitable. However it's important to remember the payments do reduce any possible profit the LLC may show. If you would like help setting up payments for your LLC, you can use an online service provider to assist you.

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Brette Sember, J.D.

About the Author

Brette Sember, J.D.

Brette Sember, J.D. practiced law in New York, including divorce, mediation, family law, adoption, probate and estates, … Read more