LLC to Scorp

[stern100]

client is about a 90% partner in LLC pship. (comm.realtor)
He was advised to also set up scorp so he could maximize his sep.
Question is, should he distribute just enough to the scorp to take wages & maximize his sep and take the majority of his distribution from the pship?
My feeling is he will be taxed twice on the same income, once on the scorp net income if he puts too much in the scorp and shows net income and once on the pship net income.
Appreciate your input.

Also, is there any benefit to instead of the scorp taking a distribution from the pship, what about gauranteed payments to the scorp instead? That would actually reduce the net income on the pship side, but how does that affect the scorp & self employment taxes?

[Bees Knees]

As you know, both an LLC taxed as a partnership and an S corporation are pass through entities. That means they do not pay tax on income, but pass it through to the owners, who in turn pay tax on the profits. This occurs regardless of whether or not the profits are retained by the entity, or distributed to the owners.

You said your feeling was that he would be “taxed twice on the same income, once on the scorp net income if he puts too much in the scorp and shows net income and once on the pship net income.”

That simply is not the case. If the S corporation is set up to be part owner in the LLC taxed as a partnership, it simply means the income flowing through the LLC will first flow through the S corporation before it reaches its final destination on the S corporation shareholder’s Form 1040.

Example: Say you are a 90% owner in the LLC. You set up an S corporation in which you are a 100% shareholder, and you transfer 40% of your LLC interest to the S corporation. That means you now own 36% of the LLC through the S corporation (90% X 40% = 36%) and 54% of the LLC directly as an LLC member. Assume the LLC earns $1,000. You as a 54% LLC member will get a K-1 from the LLC with $540 on line 1 as ordinary income. The S corporation will get a K-1 from the LLC with $360 on line 1 as ordinary income. The other LLC member(s) who own the other 10% of the LLC will get a K-1 with $100 on line 1.

You as a 100% owner in the S corporation will in turn receive a K-1 from the S corporation with $360 on line 1 as ordinary income. You now have $900 to report on your 1040 from K-1, line 1 income; $540 from the LLC K-1 plus $360 from the S corp K-1. No different than if you simply remained a 90% owner in the LLC.

Now to your real question, which was concerning maximizing your SEP contributions. As a 90% owner in an LLC, you can’t make SEP contributions based on the Line 1, K-1 profits IF you go the route of claiming Line 1, K-1 profits as not subject to SE tax (due to the limited liability issue). Therefore, to maximize SEP contributions through the LLC, you simply take a portion or all of the LLC profits out as guaranteed payments, which are subject to SE tax. As for the S corporation, the SEP contributions are dependent upon taking a W-2 wage out of the S corporation. So therefore, if the S corporation owns a portion of the LLC, it would have to pay some of its flow through income from the LLC to its shareholder in the form of a W-2 wage if you want any of that income to maximize the SEP.

It makes no difference whether you do it through guaranteed payments directly from the LLC, or pass a portion of the income through to the S corporation and do it through W-2 wages from the S corporation.

The only difference is that you complicate the situation by setting up an S corporation and having some of the income flow through it. But I see no way that you could increase your SEP contributions by using an S corporation.