Zero profit allocation in LLC

[minli98]

Is it unreasonable (from IRS point of view) for a partner to be allocated 0% profit allocation? The scenario is this: an LLC filing as partnership with 3 members. 2 of them are husband and wife, each with 30% ownership and profit allocation.

The wife works very minimally in the business and earns a small guaranteed payment. In order to minimize her self-employment tax, would it be legitimate to alter their partnership agreement so that her 30% share of profit is assigned to her husband? So he will have 60% profit allocation while she 0%.

[Snaggletooth]

Wacky

Sorry, this one seems to fall through the cracks. Your post only accounts for 60% of the profit. No one (including IRS) is going to deal favorably with that.

But to take a whack at your first question -- it is possible for a full partner to have 0% of the profits under the partnership agreement. This isn't very common, but one possible scenario would be that a partner has guaranteed payments but doesn't share in profits or loss at all. As to whether this is advisable, that is one of those "facts and circumstances" question with no answer except "Maybe."

Also, to change the partnership agreement might have repurcussions in the existing capital balances and basis. Meaning this could result in a "sale" of a part of the business from one party to another. Thousands of different scenarios here, so won't elaborate. Suffice to say when a partnership agreement lives through its first tax return, you can't just change it because one party or another doesn't like the tax consequences.

[minli98]

Just to clarify, the 3rd member owns the remaining 40%. That will not change. The proposed change in partnership agreement only alters (future) profit allocation for the husband and wife. All ownership percentages remain the same.

I see your point about the implication on the capital balance and basis going forward, but does that constitute a "sale"? Not quite sure how to think through this.