If your business is organized as a Limited Liability Company (LLC), you may have the option of choosing how you want the company taxed by the IRS. This means that you may choose to have your LLC taxed as a partnership, corporation or disregarded entity at the time of formation or at a later date.

If you choose to make the election at a later date, the default tax status of an LLC will be that of a partnership. Should you want to change it after formation, you must file an Entity Classification Election (Form 8882) by March 15th for the election to be retroactive to January 1st. If the election is made anytime after March 15th, the new status will be effective as of the filing date of the election form.

Two complications arise if you make the election after March 15th:

1. Reasonable cause explanation. You must explain to the IRS why you did not file the election on time. This is normally not much of a factor, if you can articulate, in writing to the IRS, a “reasonable cause” for not filing on time.
2. Short-year tax return. If the timing of your election is not retroactive to January 1st, you will have to file two tax returns: one for the partnership until the effective date of the filing and one for the new tax entity for the remainder of the year. The necessity of filing “short-year” tax returns raises the complexity of allocating profits and losses throughout the year and will consequently raise the cost of accounting and tax return preparation.

The Tip
Are you considering changing the taxable classification of your LLC? If so, plan on filing the election by March 15th. Even better – file the election now to be effective as of January 1, 2010 and you won’t have to worry about it again.

This tip does not include the reasons you may want to change your taxable classification. We will touch on that in a later tip.