Please note this should not be considered legal advice. Rather, these are general rules and there are exceptions to all explanations presented below. Should you have specific questions about a situation, please feel free to contact us for a consultation.
How the LLC Type Functions Within the Parameters of the IRS
The LLC exemplifies the complexities surrounding the choice of entity. The single-member LLC can be taxed as a sole proprietorship on a 1040 return or as a corporation on a 1120 or 1120S return. The confusion, at least for IRS collection purposes, stems from the fact that sole proprietorships are considered “disregarded” or “pass-through” entities. Disregarded entities are distinct from their owners for some purposes, but not when it comes to taxes.
Even though the single-member LLC can be taxed as a sole proprietorship, the rule is different for collection. The IRS cannot pursue an LLC’s assets (or a corporation’s, for that matter) to collect an individual shareholder or owner’s personal 1040 federal tax liability.
In short, the LLC (or corporation) has a separate and distinct taxpayer identification number from that of the individual (EIN vs SSN). Even though an LLC may be taxed as a sole proprietorship, state law indicates the taxpayer/LLC owner has no interest in the LLC’s property. The LLC is treated differently for taxation than for liability and collection.
The Risk in Not Running an Individual Report Lies with the Client’s Ability to Repay the Loan
The 1040 Schedule C is filed by a single member LLC to claim income from the business. This filing is under the SSN of the owner. It is not something we can obtain using the EIN, the IRS keeps these records separate.
If you want to understand the total picture in terms of the financials, run the personal report and request 1040s. However, this does not mean you should neglect to run the report on the EIN. The EIN will reveal any business tax issues/liabilities, which can be substantial. The SSN will reveal the finances of the business. You need both to have a complete picture.
For certain lenders, if funds are disbursed to the client and are used to repay personal tax debt instead of using it to drive the business, this will affect repayment. Running a report on the individual can help prevent this situation.