Identifying and making LLC elections.

• Author: Ellentuck, Albert B.
• Position: Limited liability companies

As A SEPARATE TAXABLE ENTITY, A LIMITED liability company (LLC) has the ability to make certain tax elections like any other taxpayer. LLCs can decide which fiscal year end to select, choose an accounting method, and make many other elections under the Code. Specifically, Sec. 703(b) provides that any election affecting the computation of taxable income derived by a partnership (or, in this instance, an LLC) is to be made by the partnership (or LLC) with three exceptions.

The first exception to Sec. 703(b) relates to the nonrecognition of income from debt discharge under Sec. 108. To qualify for nonrecognition treatment, the taxpayer must meet certain conditions (i.e., insolvency, etc.). When Sec. 108 applies, a taxpayer must reduce his or her tax attributes by the amount of debt discharge income not recognized. However, the taxpayer can instead elect to first reduce the basis of his or her depreciable property (Sec. 108(b)(5)). In addition, a taxpayer can elect to have the nonrecognition provisions of Sec. 108 apply to qualified real property business indebtedness (Sec. 108(c)(3)). Although both elections affect the computation of taxable income derived by an LLC, Sec. 703(b) requires they be made at the member level.

The second exception to Sec. 703(b) pertains to elections made under Sec. 617. Under this section, a taxpayer can elect to deduct mining exploration expenditures incurred during a tax year (Sec. 617(a)). Likewise, when any mine for which such expenses were deducted reaches its producing stage, the taxpayer can elect to recapture the amounts into income. Without the recapture election, the taxpayer is barred from deducting depletion until the disallowed depletion equals the mining exploration expenditures deducted (Sec. 617(b)). Sec. 703(b) requires these elections to be made by each member.

Lastly, Sec. 703(b) requires that any election to take a credit for foreign taxes paid by an LLC be made at the member level.

Election Out of the Partnership Tax Provisions

Some business arrangements that would otherwise be classified as partnerships under the Code can elect, under Sec. 761(a), to be excluded from the partnership provisions of the Code (i.e., subchapter K). Most state LLC acts preclude LLCs from electing out by providing that the LLC, not the members, owns the LLC's property. Additionally, most state acts provide that an LLC member cannot demand a distribution of property. Consequently, unless the applicable state LLC...