How split income for LLC between spouses in tax form?

[illuminato]

My spouse and i formed an LLC in a community property state. We file taxes as MFJ . I have $200k earned income from LLC and my spouse has $0. In an LLC operating agreement, we have a 50/50 split.

Currently, our LLC has a default type (Multi-Member LLC) but we could be qualified to choose Qualified Joint Venture as well (depending on how many hours my spouse would work for the LLC).

If we go with Qualified Joint Venture LLC, should we file Schedule C with split income between us as 50/50 or can I put $200k in my schedule and she put 0?

The same question if we stay as Multi-Member LLC, should we split profit equally, or can I put $200k in my Form 1065 and my spouse have $0 in her?

What if we had an operating agreement with, say, a split of 10/90?

 

[Taxing Matters]

My spouse and i formed an LLC in a community property state. We file taxes as MFJ . I have $200k earned income from LLC and my spouse has $0. In an LLC operating agreement, we have a 50/50 split.

Currently, our LLC has a default type (Multi-Member LLC) but we could be qualified to choose Qualified Joint Venture as well (depending on how many hours my spouse would work for the LLC).

If we go with Qualified Joint Venture LLC, should we file Schedule C with split income between us as 50/50 or can I put $200k in my schedule and she put 0?

The same question if we stay as Multi-Member LLC, should we split profit equally, or can I put $200k in my Form 1065 and my spouse have $0 in her?

What if we had an operating agreement with, say, a split of 10/90?

You can run into trouble if the reported distributions to the partners (which is how multiple member LLCs organized by default are classified) don't match up with the economic arrangement of the partnership. You also have the problem that in general the income from the LLC is community property and thus half of what you get from it is income to her unless you've completed whatever your state requires to alter that 50-50 split. There is some flexibility when the only owners are spouses, but partnership taxation can be complex. If your wife really doesn't participate in the business at all, you may elect to have the LLC treated like a sole proprietorship in a community property state. Then you'd just do the the Schedule C on your Form 1040.

But in order to know what's best here you first have to sort out what you want to achieve with the business and what roles each of you will play in the business and what contributions each will make. Note that it's not just income tax that you need to think about. There are also the Social Security and Medicare taxes (known as FICA taxes). If she does no work for the LLC, she'll have no FICA tax to pay — you'd pay Medicare tax on all your profit and Social Security tax up to the Social Security tax cut off. Be aware that it is not always best to do what keeps these taxes the lowest as you have to take into account how the FICA allocations will affect each of your Social Security and Medicare benefits.

I suggest you would best be served by talking with a tax professional (EA, CPA, or tax lawyer) who is familiar with partnership taxation in your state for advice. There are just too many interlocking parts to this to give a simple answer on a message board.

 

[illuminato]

I just want to understand if it is okay to pay SS taxes based on the earned income each of us brings to the LLC and not to file two Schedules SE if my spouse does not have earned income from the LLC.

I spoke with two CPAs, and here are their opinions (for the disregarded entity/sole proprietorship case).

First CPA: need to file two Schedules SE and split earnings as 50/50
Second CPA: can file one Schedule SE if sposuse did not have earnings from LLC

 

[Zigner]

I just want to understand if it is okay to pay SS taxes based on the earned income each of us brings to the LLC and not to file two Schedules SE if my spouse does not have earned income from the LLC.

I spoke with two CPAs, and here are their opinions (for the disregarded entity/sole proprietorship case).

First CPA: need to file two Schedules SE and split earnings as 50/50
Second CPA: can file one Schedule SE if sposuse did not have earnings from LLC

Speak to another...

 

[davew9128]

Find someone familiar with community property rules...

 

[LdiJ]

I just want to understand if it is okay to pay SS taxes based on the earned income each of us brings to the LLC and not to file two Schedules SE if my spouse does not have earned income from the LLC.

I spoke with two CPAs, and here are their opinions (for the disregarded entity/sole proprietorship case).

First CPA: need to file two Schedules SE and split earnings as 50/50
Second CPA: can file one Schedule SE if sposuse did not have earnings from LLC

I agree with Dave that you need to speak to someone familiar with Community Property rules. However, it wouldn't just be Schedule(s) SE that would need to be filed, it would be Schedule C as well in those particular Scenarios. I am not saying that those are necessarily your choices, but either a Form 1065 would need to be filed and the income passed through on a Schedule K1, causing a Schedule E and a Schedule SE to be filed (divided in some manner) or one or more Schedule Cs and SEs would need to be filed (again divided in some manner). There is no Scenario where only Schedule SEs would be filed.

 

[Taxing Matters]

I just want to understand if it is okay to pay SS taxes based on the earned income each of us brings to the LLC and not to file two Schedules SE if my spouse does not have earned income from the LLC.

I spoke with two CPAs, and here are their opinions (for the disregarded entity/sole proprietorship case).

First CPA: need to file two Schedules SE and split earnings as 50/50
Second CPA: can file one Schedule SE if sposuse did not have earnings from LLC

In a non community property state if one spouse does not have any active participation in the LLC then if the Form 1065 and K-1s are done correctly it would designate your share of the partnership earnings as self-employment and you'd just do one Schedule SE for yourself. Your wife would have passive income from the Form 1065 with no self employment tax. But community property can change the outcome of tax situtations because it divides income and property differently than common law property rules. I don't practice in any of the 9 community property states, and I don't think anyone here who is in one of those states is a tax professional. As advised before, you really should see a tax professional in your state for answers. But to get you started, the IRS has a publication that discusses how community property rules affect your federal income tax. It's Publication 555.

 

[illuminato]

Thank you for your answers. I spoke with the third CPA today, and he agreed with the first CPA regarding profit as 50/50 (does not matter if it is LLC QJV or Partnership and if it is a 50/50 share or 10/90) if the spouse materially participates. If she does not materially participate, then the only option is Partnership and the split is dictated by Operating Agreement. He advised us to remove spouses from LLC if FICA taxes are our concern

 

[davew9128]

I don't practice in any of the 9 community property states, and I don't think anyone here who is in one of those states is a tax professional.

I'm in one.
Short version is that the income gets split between spouses but if one is or would be considered passive if not married, then all of the income is SE income for the spouse materially participating.

 

[Taxing Matters]

I'm in one.
Short version is that the income gets split between spouses but if one is or would be considered passive if not married, then all of the income is SE income for the spouse materially participating.

Thanks. Given how community property works, that seems like a logical way to treat the taxation of income the couple gets from the partnership. It seems to lack some of the flexibility of what can be done in my state, but that reflects the underlying differences in the property law of community vs common law states. Community property approaches marriage like a true partnership of the married couple, common law property rules do not. The modern view seems to be that community property is actually the fairer property system for marriages. But the common law states are hesitant to abandon centuries of common law rules and convert to community property. Which is why common law states tend to use equitable division rules for divorce to kind of replicate the result that community rules give in a divorce without the need for those special equitable division rules. It's stuff like this that make me more wary of answering tax matters for couples in community property states. I'm just not familiar with the details of any of the community property states' rules, and they do differ, let alone the details of taxing it. Even worse is answering any legal question for Louisiana, which goes even further than community property by adopting European civil law principles for all its law, not just marriage.

I only see community property issues in my state if a couple moves here from a community property state as my state will continue to recognize that property they had before coming here as community property. I don't see it that often, but I see it a little more now than in the past as more Californians seem to be fleeing that state and one of the popular spots for them to land seems to be here. As you might imagine, my state's rule on that sometimes produces weird results that you wouldn't see otherwise in either property system.

I know, this is far more than anyone probably wants to read on a message board about different property laws and how that then affects federal and state income taxes. But I find the different approaches of common law, community property, and European civil law fascinating.