Disregarded Entity

Understanding Disregarded Entities: A Comprehensive Overview

What Is a Disregarded Entity?

A disregarded entity refers to a business structure with a single owner that, for federal income tax purposes, is not considered separate from its owner. In essence, the taxes owed by such a business are integrated into the owner’s income tax return. The term originates from the Internal Revenue Service (IRS) treating the company as disregarded in terms of separateness from its owner.

Identifying Disregarded Entities: Business Types

The most prevalent form of a disregarded entity is the single-member limited liability corporation (SMLLC). This structure may be owned by an individual or a corporation. While the IRS automatically designates all SMLLCs as disregarded entities, owners have the option to select a different classification if their business meets the criteria. Apart from SMLLCs, two other corporate entities may qualify as disregarded entities: a qualified REIT subsidiary and a qualified subchapter S subsidiary.

Tax Obligations of Disregarded Entities

Given that the owner handles federal taxes for the disregarded entity through their personal tax return, the entity itself is not obligated to file a separate federal income tax return. However, state laws may differ, so it is advisable to consult with your state tax office to determine specific requirements in your jurisdiction. Additionally, a disregarded entity is responsible for meeting obligations related to employment taxes and certain excise taxes when applicable.

Advantages of Disregarded Entities

Disregarded entities present significant tax benefits. Unlike traditional corporations, these entities are exempt from double taxation, where profits are taxed at the corporate level and then again when distributed as dividends to owners. Managing income taxes is also simplified for disregarded entities, as they are not required to file a separate tax return. Moreover, a disregarded entity offers legal protection for both the owner and the SMLLC, ensuring that legal actions against one are less likely to affect the other. By law, the owner’s personal assets remain distinct from the business assets of the disregarded entity.

Navigating the Complexities of Disregarded Entities

Laws pertaining to disregarded entities are intricate. It is strongly recommended to seek guidance from an accountant or another financial professional for authoritative advice tailored to your specific situation. Understanding the nuances of disregarded entities is crucial for making informed decisions and optimizing the benefits they offer.