How to do accounting for an LLC

What is a Limited Liability Company?

A limited liability company (LLC) is a business entity that provides its owners with the limited liability protection of a corporation, while allowing earnings to pass through to the owners for tax purposes. It can also be characterized as an unincorporated association that requires much less paperwork than a corporation. In essence, an LLC combines the best features of a corporation and a partnership while not being classified as either one. An LLC is created by state statute, and is taxable as a partnership under federal tax law.

Setting up an Accounting System for an LLC

There are several issues to address when setting up an accounting system for an LLC. The following items must be addressed:

  • Open a separate bank account. This account is in the name of the business; run all of your business payments and receipts through it, to keep them clearly separate from your personal affairs. This is necessary both for financial reporting and tax filings.

  • Pick an accounting method. You can choose to use either the accrual basis or cash basis of accounting when initially setting up the accounting system for an LLC. Under the accrual basis, revenue is recognized when earned and expenses when incurred. Under the cash basis, revenue is recognized when cash is received and expenses when bills are paid. The accrual basis involves more complex accounting, but results in more accurate financial statements. The cash basis is relatively easy to use, and so is preferred when the accounting staff is small and less well trained. Also, by using the cash basis, it is more likely that a business will have sufficient cash in hand when taxes are due.

  • Set up a chart of accounts. Create a chart of accounts in your accounting software that identifies all asset, liability, equity, revenue, and expense accounts that you are likely to use when operating the business. Leave some room in the account numbering, so that you can insert additional accounts at a later date.

Accounting for a Limited Liability Company

Limited liability company accounting is similar to the record keeping required for a normal corporation. It is necessary to create a chart of accounts and maintain a general ledger, in which all accounting transactions are recorded. Examples of transactions that an LLC might record include the following:

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Essentials of Limited Liability Companies

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Tax Issues for an LLC

The key, unique accounting issue related to an LLC is the payment of income taxes. Income is supposed to flow through to the owners of an LLC (as is the case with a partnership), so the entity itself does not pay taxes. Profits and losses are allocated to the owners based on the relative proportions of their ownership interests in the LLC. This arrangement makes an LLC a pass-through entity.

This also means that the LLC does not record any tax credits, since there is no tax liability to offset them.