Small business owners have a variety of withdrawal methods available to them when attempting to minimize the amount of vulnerable assets within the business. Taking payments for loans and leases is one possible strategy that can accomplish this goal, subject to certain tax issues.

For the corporation, withdrawing funds as payments for loans and leases offers significant advantages and should ordinarily be a first-line choice for withdrawing funds. Generally, self-employment tax is avoided because the entity is not usually in the business of making loans and leases, so any funds from these transactions are not considered self-employment income.

Overall, these same advantages apply in the case of the limited liability company (LLC).

However, in the one-owner LLC, the self-employment tax advantage with respect to loans and leases is not as clear.

While, essentially, the tax treatment of a one-owner LLC and a multi-owner LLC is identical, the tax classification in each situation is somewhat different. For tax purposes, a multi-owner LLC is classified as a partnership. (Note that this classification is only for tax purposes and does not affect the limited liability of the owners of the LLC). Thus, the multi-owner LLC files an information return with the IRS, which reports the LLC's income and the allocation of this income to the individual owners. The owners then report their share of the income on their personal income tax returns.

The multi-owner LLC should enjoy the same exact self-employment tax advantage with respect to payments for loans and leases that owners of a corporation enjoy. Thus, the payments should not be subject to the self-employment tax if the recipients are not in the regular business of extending loans or leasing property. In this case, owners would pay self-employment tax only on their share of LLC earnings, plus payments received for salary.

Further, funding an LLC with debts (i.e., loans and leases) offers distinct asset protection advantages (see our discussion of strategic funding using operating and holding companies). Thus, in the case of the multi-owner LLC, withdrawals as payments for loans and leases also should be a first-line strategy.

In the case of the one-owner LLC, the situation is somewhat less clear, because the one-owner LLC, technically, is classified as a "disregarded entity" for tax purposes, similar to a sole proprietorship. (Once again, this classification is only for tax purposes and does not affect the limited liability of the owner). Because the entity technically does not exist for tax purposes, it files no form at all with the IRS. The owner simply reports the LLC's income on his personal income tax return. This greatly simplifies the payment of income taxes and is consistent with the theme of simplicity that applies to LLCs.

However, this also means that payments by the LLC to the owner for loans and leases will not be recognized on the tax return, because for tax purposes the entity and the owner are one in the same. Due to this fact, these payments may not escape the self-employment tax. Conceivably, having the LLC make these payments to a separately owned LLC will fall to the same argument, as the other LLC also will be "disregarded" for tax purposes.

Of course, if even one other person (i.e., another family member) were an owner, irrespective of how nominal the ownership interest, then the LLC would be a multi-owner LLC and should come under the partnership version of the rules (absent the application of any aggregation rules, which might, for example, count all of the family's interests as one interest).

Conveying ownership interests to family members also can be a very effective estate planning, and thus asset protection, strategy. In short, qualifying the LLC as multi-owner may allow the LLC to avoid the self-employment tax with respect to payments for loans and leases. However, because this area of law is still currently developing, it is especially wise to check with a tax advisor to determine the self-employment tax consequences of particular withdrawal strategies in an LLC.

Finally, the use of "guaranteed payments" should be considered when operating a multi-owner LLC.