What is Disregarded Entity?

Disregarded entities are those business entities which are separated from its owners but everything of the disregarded entity flows through the owner for the US tax purposes. So, the disregarded entity is a pass-through entity only for the tax purpose.

For the legal purposes, this entity exist but for the USA tax purposes, it does not exist. Hence disregarded entity does not required to file federal income tax since, the owner pays the disregarded entity’s federal taxes on his/her personal tax return. ?

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Election of Disregarded Entity:

While forming LLC, there are two alternative options to elect within 75 days after beginning the tax year or anytime in the preceding tax year.

·????????By filing form 8832, LLC may elect as a Corporation

·????????By filing form 2553, LLC may elect as an S corporation

If tax payer does not inform IRS by not electing any of the above entities, the LLC will be taxed in another manner by the default entity classification for the federal tax purpose.

·????????An LLC with two or more members will be classified as Partnership by default

·????????An LLC with only one member will be classified as Disregarded entity separate from its owner

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Advantages:

·????????No double taxation: Unlike corporations, it is not subject to the double taxation. Where the corporations pays taxes on profit and that profit is again taxed to the owner’s end once it’s distributed to them as dividend.

·????????Simple tax Structure: Disregarded entity doesn’t have to file its separate tax return. It’s a very easy tax filing along with the owner’s personal tax return.

·????????Protection to Limited Liability: It’s a separate entity as per law, the business is separate from owner’s personal assets.

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Disadvantages:

·????????Other taxes: This entity is disregarded by IRS only for the purpose of federal taxes, but if taxpayer have any employees or if LLC owes any excise tax liability, the LLC may be liable for the employment or Excise taxes.

·????????Self-employment taxes: As, every transactions of disregarded entity will be flowing in the owner’s personal tax return, he/she will be liable to pay self-employment taxes.