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If I am in a limited liability partnership or in a limited liability company (which receives flow through tax treatment), how are the assets and income of the LLC taxed?

I think the way it works is:

When there is flow through tax treatment, income and assets that are part of the business are treated as though it were personal income of the individual. For some reason this can result in either the flow through income being UNTAXED or the flow through income being taxed as a capital gains. Either way this allows a lower tax rate for LLC profits. I'm not sure that correct. I know it has something to do with capital accounts.

Also, is it true that if the LLC loses money, that loss can be offset against other taxable income resulting in a lower total taxation?

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    Why is this down-voted? You'll never know if you don't ask. This is a very common misunderstanding with regards to the LLC and pass-through taxation.
    – littleadv
    Dec 14, 2014 at 8:15

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For some reason this can result in either the flow through income being UNTAXED or the flow through income being taxed as a capital gains. Either way this allows a lower tax rate for LLC profits. I'm not sure that correct. I know it has something to do with capital accounts.

This is incorrect. As to capital accounts - these are accounts representing the members/partners' capital in the enterprise, and have nothing to do with the tax treatment of the earnings. Undistributed earnings add to the capital accounts, but they're still taxed.

Also, is it true that if the LLC loses money, that loss can be offset against other taxable income resulting in a lower total taxation?

It can offset taxable income of the same kind, just like any other losses on your tax return.

Generally, flow-through taxation of partnerships means that the income is taxed to the partner with the original attributes. If it is capital gains - it is taxed as capital gains. If it is earned income - it is taxed as earned income. Going through LLC/partnership doesn't re-characterize the income (going through corporation - does, in many cases).

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  • Thanks @littleadv. Just to clarify, the advantage then in having flow through tax treatment is basically to avoid corp. income tax. Right?
    – user20687
    Dec 14, 2014 at 17:19
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    @franklin exactly. You have the liability limitation but no tax consequences.
    – littleadv
    Dec 14, 2014 at 20:54

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