Classification of single-member LLCs to be clarified under final "check-the-box" regulations.

• Author: Montgomery, Steve

Pending finalization of the "check-the-box" regulations under Sec. 7701, the classification of single-member limited liability corporations (LLCs) is highway uncertain. Under the current rules, the IRS could treat a single-member LLC as a sole proprietorship, an association taxable as a corporation or some type of trust (e.g., a grantor trust). The major risk of structuring a single-member LLC under the current rules is that the Service may, under examination, attempt to treat the single-member LLC as an association taxable as a corporation.

Once the "check-the-box" regulations are finalized, however, an eligible single-member LLC will be able to elect to be classified as a corporation or a branch. If no election is made, under the default files of the proposed regulations, a domestic, single-member LLC will be disregarded as an entity separate from its owner, thus, its activities will be treated in die same manner as a sole proprietorship, branch or division of the owner. A foreign single-member eligible entity may elect branch treatment, and, in the absence of an election, the entity will be treated as a corporation if it has limited liability.

Generally, the transition rules under the proposed regulations are favorable to taxpayers. Under these rules, an eligible entity existing prior to the effective date of the regulations that chooses to retain its current classification would not be required to file an election. It is unclear whether this rule would apply to a single-member LLC that takes the position under current law that it is a branch. The transition rules specifically provide that if an eligible single-member LLC claimed to be a partnership under the current regulations, the entity would be disregarded as an entity separate from its owner under the proposed regulations. Although this might be read to sanction current formation of single-member LLCS, it is unclear how a taxpayer can justify treating an entity with one owner as a partnership. Therefore, taxpayers should be cautious in considering whether to form a single-member LLC.

When the "check-the-box,, rules are finalized, single-member LLCs will serve as important tax planning tool. A single-member...