Disregarded Entity

What Is a Disregarded Entity?

A disregarded entity is a business with a single owner that is not separate from the owner for federal income tax purposes. This means taxes owed by this type of business are paid as part of the owner’s income tax return.

The term gets its name from the fact that the Internal Revenue Service (IRS) disregards the company as being separate from its owner.

What Types of Businesses Can Be a Disregarded Entity?

The most common disregarded entity is the single-member limited liability corporation (SMLLC). The sole owner may be either a person or a corporation. The IRS automatically classifies all SMLLCs as disregarded entities, but the owner can choose a different classification if their business qualifies. In addition to SMLLCs, two other kinds of corporations can be disregarded entities: a qualified REIT subsidiary and a qualified subchapter S subsidiary.

Does a Disregarded Entity Have to File Tax Returns?

Since the owner pays the disregarded entity’s federal taxes on their personal return, the disregarded entity is not required to file a federal income tax return. Some state laws vary, though, so consult your state tax office to learn what’s required in your area.

A disregarded entity is also responsible for paying employment taxes and certain excise taxes if they are due.

What Are the Advantages of a Disregarded Entity?

A disregarded entity enjoys substantial tax advantages. Unlike regular corporations, a disregarded entity is not subject to double taxation, where a corporation pays taxes on its profits and then the profits are taxed again when the corporation’s owners receive dividends. 

It’s also simpler for a disregarded entity to handle income taxes, since it doesn’t have to file its own separate return. 

Finally, a disregarded entity provides some legal protection for both the owner and the SMLLC, so legal action against one is less likely to affect the other. By law, the owner’s personal assets are separated from the disregarded entity’s business assets.

Laws regarding disregarded entities are complicated. Talk with an accountant or other financial professional for authoritative advice about your situation.