Default Entity Rules For LLCs
Per IRS regulations, when a taxpayer fails to select a business classification, a default entity will be chosen for them. Default entity rules for LLCs are outlined below.
Existing Entity Default Rule
If an existing entity decides to change its classification, it may do so subject to the 60month limitation rule. See Regulations sections 301.7701-3(b)(3) and 301.7701-3(h)(2) for more details.
Domestic Default Rule
Unless an election is made on Form 8832, a domestic eligible entity is:
-
A partnership if it has two or more members.
-
Disregarded as an entity separate from its owner if it has a single owner.
Automatic Classification as a Corporation
The following business entities are automatically classified by regulation as corporations for federal tax purposes (Reg §301.7701-2(b)(1), (3), (4), (5), (6), (7), or (8)):
-
A business entity organized under federal or state law if the statute describes or refers to the entity as incorporated, a corporation, body corporate, or a body politic;
-
An association;
-
A business entity organized under state law if the statute describes or refers to the entity as a joint-stock company or a joint-stock association;
-
An insurance company;
-
A federally insured state-chartered bank;
-
A business entity wholly owned by a state or any political subdivision of a state;
-
A publicly traded business entity taxable as a corporation under IRC Section 7704; and
-
Certain foreign business entities.
Change in Number of Members
A change in the number of members:
-
Corporation – Does not affect the entity’s classification.
-
Partnership – Will become a disregarded entity when the entity’s membership is reduced to one member.
-
Disregarded Entity – Will be classified as a partnership when the entity has more than one member.