How LLCs Distribute Profit to Their Members


In most cases LLCs distribute their profits proportionately to all members, depending on each member’s ownership in the company. So, if you were a 50 percent owner, for example, you would be entitled to receive 50 percent of the net profit (or loss) that the LLC garnished each year. But, depending on how your LLC is set up, there is potential for a change up.

With special arrangements an LLC may distribute out its net profits in other ways. So, if you have a situation where one member is providing money for working capital, whereas the other member is providing some kind of service other than financial to earn their interests (sometimes called “sweat equity”), you can arrange for net profits to be paid out in ways other than percentile, rather than strictly according to ownership percentage. It is this amazing flexibility that makes LLCs such attractive structures to use!

Proceed cautiously where non pro-rata distributions are concerned.  Be sure to talk to your tax advisor about how best to structure this so that it looks (and is) legal in the eyes of the IRS. You’ll want to make sure any non-pro rata distribution is set up properly, so you don’t run into trouble with the IRS at tax time. Also, the option to play with unequal distributions isn’t available if you have elected to be taxed as either a C or S Corporation. Because you are adopting IRS rules for corporations, you are bound to their rules and to distribute profits strictly according to ownership percentages.

The distribution sequence will also change with your LLC’s tax classification. If you were to choose one of the corporate tax classifications – S Corporation or C Corporation – your LLC would distribute profit differently.

There are many variables when you’re structuring a business. That’s why it’s hard to go through a quick-service website. Unless you talk to someone who’s got some knowledge and experience on both the tax and the legal side, it’s hard to know what you don’t know. And that can leave you vulnerable.

Got questions? Contact us! We’re here for you.

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2 Comments

  1. Plaza says:

    I have an art & giprhac design business, and don’t have any employees. We do use an independent contractor to help us. What would be better (tax wise)for us to do? .an LLC or an S Corp?thanks for your help,Aloha, Terry

    • Megan Hughes says:

      Hi Terry,

      When you’re offering a service, I like to see people using an S Corporation. But not right away, only once the income makes sense. Generally, once you’re making about $15k per year or more, you can start to see enough savings with S Corporation taxation to offset the extra costs you’ll have with payroll preparation and the extra tax return.

      Mahalo!

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