Starting a limited liability company (LLC) can provide you with a simple way to limit your personal liability for business transactions. When starting an LLC, you should understand the tax implications. When you receive income from the LLC, you will have to pay Social Security taxes on part of the money.
Forming an LLC
A limited liability company is a type of business entity that you can set up by simply paying a fee and filling out a form with your state government. Once you set up an LLC, you can protect your personal assets from claims resulting from business actions. The money that is earned by the LLC can be directly passed on to you without the LLC having to pay any taxes on the income first. This helps eliminate the double taxation that comes with a traditional corporation.
When you receive income from an LLC, you will have to pay self-employment taxes on that amount. The self-employment tax involves paying taxes for both Medicare and Social Security. When you work for an employer, half of these taxes are paid by the employer. By comparison, when you have an LLC, you have to pay the entire amount yourself. As of May 2011, the rate for the Social Security tax is 12.4 percent while the Medicare rate is 2.9 percent.
Even though you have to pay Social Security taxes when you have an LLC, you also get another deduction because of this payment. The Internal Revenue Service allows you to deduct half of what you pay in self-employment taxes on your personal income taxes. This does not quite make up for the difference between what employees and self-employed persons have to pay, but it helps. When combined with other deductions, it can significantly lower your personal income tax liability.
When it comes to paying Social Security taxes on your LLC income, you may not have to pay them on the entire amount you bring in. This amount of tax is only levied on the first $106,800 that you earn. If you make more than that, you will not have to pay the 12.4 percent that goes toward Social Security taxes on the overage. You also get to reduce the amount of your income by 7.5 percent before you apply the rate.