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Old 03-16-2013, 05:01 PM
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Cash Draw / Member Pay Deductibility

I signed a compensation agreement with the principal member of my multi-member LLC (of which I was the managing member). The principal member then opened a line of credit with the bank and transferred some of those funds to me per the aforementioned agreement.

I understand that I am solely responsible for the taxes on the amount transferred to me (it was basically the same as a cash draw). But is the amount transferred considered a deductible expense for the LLC?



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Old 03-16-2013, 07:12 PM
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“I understand that I am solely responsible for the taxes on the amount transferred to me (it was basically the same as a cash draw). But is the amount transferred considered a deductible expense for the LLC?”========== Generally, owner draws are not a deductible business expense to determine net profits, which are taxed at either the individual owner or corporate level.However, an LLC can deduct compensation it pays to the management and staff of the company. LLCs can deduct the costs of salaries and most benefits paid to executives, shareholder-employees, and rank and file staff as business expenses. However, compensation paid to business owners/members may be subject to serious scrutiny by the IRS.



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Old 03-16-2013, 11:14 PM
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More on Cash Draw / Member Pay

Thank you for the explanation. However, it does lead me to a follow-up question (albeit more academic at this point): Why do I, as a member, have to pay (personal) taxes on a cash draw from funds acquired through a loan secured by the company, if neither the loan nor the amount transferred to me is considered a company expense? In a non-LLC company, the draw would be characterized as an expense and I understand that it is subject to withholding, etc. by the employee/recipient.

Note that the draw I received was not from profit/revenue as the LLC never had any sales or revenue before dissolution.



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Old 03-17-2013, 12:16 AM
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“Why do I, as a member, have to pay (personal) taxes on a cash draw from funds acquired through a loan secured by the company, if neither the loan nor the amount transferred to me is considered a company expense?”==========Right; The owner’s draw is not an expense but rather just a way to take out your owner’s equity of the business. you can take out a personal draw and pay yourself. A llc’s members cannot be paid a salary from the company when the LLC is taxed as a sole proprietorship or partnership under default rules of the irs. Instead, the IRS treats the company’s entire profit as income for its members, even if they reserve some of the profit for the company’s working capital. Rather than take a regular salary, members can draw funds from the company for their own personal use if accounted accurately. You do not take taxes from this.I mean Most LLCs allow the members to withdrawal in the form of a draw; Owners can either choose a draw from the business or pay themselves a salary. Owners can take periodic withdrawals from their business as a means to receive remuneration for their activities. Draws go into a special account that reduces the company's equity on Sch L of 1065 in your MMLLC case. Sole proprietorships are typically the most common business structures that use owner draws. Owners must report their draws when they occur or when the cash leaves the business. The draw account will continue to increase to indicate how much money the owner takes from the business. In general, owner draws do not have taxes taken out when the owner receives the money. Sole proprietorships require the owner to report all income on his personal tax return. MMLLC members are not 'employees' for payroll and payroll tax purposes. Instead, the members will take draws from the LLC, and will make personal quarterly tax estimate payments. Remember that a member's taxable income (and hence the amount of tax estimate payments the member must make) will be based on the member's share of the LLC's net profits, and NOT based on the amount of draws the member takes out. If you and I are 50 / 50 partners in an LLC, and that LLC had $300 in net taxable profit, then you and I each pay tax on $150, whether we took draws, didn't take draws, or took out unequal amounts.(That's why, if you're planning on reinvesting a significant portion of your profits back into the biz, you'll want to consider having the LLC make distributions to the members at least sufficient to cover their tax obligations.). So,amounts of money given to members of LLCas part of their profit sharing are termed as draws. Again, these draws should be noted in the accounting system as a separate category and should not be treated as income or expenses.




“ In a non-LLC company, the draw would be characterized as an expense and I understand that it is subject to withholding, etc. by the employee/recipient.Note that the draw I received was not from profit/revenue as the LLC never had any sales or revenue before dissolution.”========Correct.As said, Any payments to the owner are treated as draws. These amounts should be noted in the accounting system as draws and should not be classified as income or expenses to the company. For tax return purposes, the LLC owner, I mean, sole owner of SMLLC, will simply fill out and attach a Sch C to his 1040 tax return. There will be no W-2 form completed. The owner’s draw is not an expense but rather just a way to take out your owner’s equity of the business. you can take out a personal draw and pay yourself. You do not take taxes from this; Draws are reductions of owner's equity, not an expense. Business net profits determine what each owner pays in self-employment and income tax, regardless of any cash taken out of the company as compensation. Draws are not a deductible business expense and can't be used to reduce net profits. Draws for LLC members may be legally limited because LLCs have limited liability protection.



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Old 03-17-2013, 08:19 AM
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Draw Issues Understood.

Thank you. Your excellent response has answered my question(s).



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Old 03-17-2013, 12:05 PM
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You are very welcome; hope it helps



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Old 03-17-2013, 04:35 PM
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More on Cash Draws

I just ran into another sticky issue. Given the following:

* Multi-member LLC lasted for only a few months wholly within the tax year 2012
* No revenue was generated
* All capital was from a combination of property, loans and accepted member contributions of services and work (sweat equity)

My own capital contribution was valued at greater than $7000.

During the course of our short run as a company the principal member allowed me to draw $2000 (cash from the loan which he had secured).

How do I list this activity properly on Form 1065 Schedule K-1?

Do I list the $2000 under PART III Item 19 as a distribution?

and/or

Do I list the $2000 under PART II Item L on the "Withdrawals and distributions" line (with a subsequently reduced "Ending capital account")?

or

Have I missed something altogether?

Please note that the operating agreement stated: "The provisions of the Agreement relating to the maintenance of capital accounts are intended to comply with the provisions of IRS Regulations Section 1.704-1(b)(2)"



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Old 03-17-2013, 05:52 PM
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“How do I list this activity properly on Form 1065 Schedule K-1?”======== It depends on how you set up the LLC. If your operating agreement provides for a guaranteed return on capital (in the nature of interest, generally stated as a percentage), that would be a Guaranteed Payment, which is an expense to the business. Each owner of an LLC taxed as a partnership will get a K-1 reporting his or her income or loss for the year which will then go onto the 1040. If a draw is takenas we said, it is not taxed in addition to the income on the K-1 if the person taking the draw had enough basis to take the draw. Basis is created through investments into the business plus profits and reduced by draws and losses in the business. If the draw is in excess of basis the excess amount will be taxed.In your case your basis , $7K, exceeds the draw $2K, it is not taxable draw. However, if the draw is for compensation it will be considered a Guaranteed Payment and will be recorded as income on the K-1. Technically owners of an LLC should not take W-2 wages throughout the year. Although it is a common practice and at the end of the day the tax paid is the same. I guess you received payments that are guaranteed to be made to a partner/ a member irrespective of whether the partnership, I mean the LLC, makes a profit or not. Guaranteed payments to partners/members are made to ensure that partners/members are compensated for specific contributions they make to a partnership, whether in the form of goods or services. This eliminates the risk of their making personal contributions of time or property for which they are never paid if the partnership is not successful. How a guaranteed partner/member draw is reported depends on how the LLC is treated for tax purposes. Since the LLC is treated as a partnership, the guaranteed payment is reported on line 10 of Form 1065 as an expense to the partnership, and is reported on line 4 of the partner's Sch K-1. You will report the payment as part of your income from the partnership on Sch E and ,eventually, line 17 of Form 1040. Guaranteed payments considered an expense to the biz essentially function as a form of salary for partners. This income may be subject to self-employment tax, depending on the terms of payment. The purpose of a guaranteed payment is to pay one partner or LLC member in a way that is not proportionate to his ownership. If the LLC has two members and one does more work than the other he would get a guaranteed payment as if he were an employee. For example: The LLC earns $100K and Member A & Member B each own 50% If A gets a $ 10K guaranteed payment, then there is only $90K to split 50/50.So if this situation is not relevant to your LLC, then there is no need for a guaranteed payment.So,. a guaranteed payment is more appropriate for one person being paid for their services.
OR You can also take draws that are considered a return of capital and not compensation for services, I mean NOT GP, rendered; Owner's draw decreases the owner's capital account on Sch L of 1065 as typically, a check is written on the business account to the owner and it is deposited in the owner's personal account. The money or assets the partner withdraws is recorded in the company's accounting record in what is referred to as a drawing or draw account.



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