You Must Understand Taxation of Member Contributions to an LLC to Anticipate Tax Considerations for the LLC

By: Tamara Pow

In two of my previous blogs I have discussed the individual tax consequences to members when they make contributions to an LLC taxed as a partnership or contributions to an LLC taxed as a corporation. When contributing property or services to a limited liability company (“LLC”), members need to be careful about possible tax recognition rules. However, what about the LLC? What taxes will it potentially face based on the contributions made by members? The general rule is that the LLC itself will not recognize gain on the receipt of contributed property, cash or services in exchange for an LLC membership interest. This is true whether the LLC is taxed as a partnership (IRC 721(a)) or if the LLC is taxed as a corporation (IRC 1032). However, the LLC must understand the tax consequences to the members in order to determine its basis in the contributed property.

LLC Taxed as a Partnership

For an LLC taxed as a partnership, the LLC’s tax basis in the contributed assets is the same as the basis of the member that contributed such property, unless the contribution is a disguised sale, in which case the LLC’s basis in the contributed assets is the cost of such assets to the LLC.

LLC Taxed as a Corporation

For an LLC taxed as a corporation, the LLC’s basis in the contributed assets is the same as the basis of the member that contributed such property if the contribution was tax free under IRC Section 351. If the contribution was not tax free under IRC Section 351, then the LLC taxed as a corporation gets a stepped up basis in the assets.

Because of the tax implications, LLCs can be more complicated than many expect. Make sure to structure your limited liability company contributions for the best tax consequences for the members and the entity, or at least be aware of the tax consequences so that you are not surprised when it comes time to report the transactions.

Tamara B. Pow is a founding partner at Strategy Law, LLP in San Jose, California. She has been practicing LLC, partnership and real estate law in California for 20 years. As an LLC attorney with an MBA, a California real estate broker’s license and experience in public accounting, she overemphasizes the importance of tax planning and consulting with a lawyer or CPA who is knowledgeable about member contributions to LLCs before the contribution is made.

The information appearing in this blog does not constitute legal advice or opinion. Such advice and opinions are provided by the firm only upon engagement with respect to specific factual situations. Specific questions relating to this article should be addressed directly to Strategy Law, LLP.

Categories: LLC

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