How to Avoid Self-Employment Taxes
If you elect partnership taxation for your limited liability company (LLC), you’re assessed a 15.3 percent self-employment tax in addition to the personal income taxes you’re required to pay on the profit that’s allocated to you.
In addition, even if you’re an active member of your LLC, you aren’t allowed to hire yourself and use payroll taxes as a way to get around the hefty self-employment tax bill each year. This taxation is one of the only drawbacks of LLCs when compared to S corporations, which only assess self-employment taxes on the amount of salary you choose to pay yourself, assuming it’s within the norm for your industry.
One caveat, however, lands this guideline in the LLC’s favor. Although you may not be able to officially hire yourself (and thereby avoid self-employment tax), you can slack off a bit, to the point where you’re no longer considered an active participant but rather a passive participant.
In the case of an LLC electing partnership taxation, only active participants are required to pay self-employment tax, whereas inactive participants aren’t. The income itself is considered passive, which, as far as income goes, is about as favorable as the IRS gets.
However, depending on your industry and specific situation, the rules can be murky. Let your CPA help guide you in this area.