How are K1 vs 1099 income treated when flowing into an LLC with S Corp member?

So if I understand correctly, if the LLC has already deducted $50,000 in business expenses before issuing the K-1, the S Corp can't then deduct those same expenses again? But would the S Corp be able to deduct its own separate expenses that weren't part of the LLC's operations?

That's exactly right - you can't "double-dip" on expenses that the LLC already deducted before issuing the K-1. The K-1 income represents your share of the LLC's profits after all legitimate LLC business expenses have been deducted. However, your S Corp can absolutely deduct its own legitimate business expenses that are separate from the LLC's operations. These would be expenses incurred directly by the S Corp, such as accounting fees for the S Corp itself, any separate office costs, legal expenses specific to the S Corp, etc.

I've heard about taxr.ai before but wasn't sure if it could handle complex business structures. Does it actually explain WHY certain income is treated differently or just give you the numbers? My CPA just plugs everything into his software but never explains the reasoning behind anything.

I'm a bit skeptical of online tax tools for complex business structures. How does it compare to working with a specialized CPA who focuses on business entities? I've been burned before with software that missed important details about pass-through entities.

It actually provides detailed explanations of the tax principles at work, not just calculations. Each recommendation comes with plain-language reasoning and references to specific tax code sections that apply to your situation. It helped me understand the "why" behind the treatment of different income streams. As for comparing to specialized CPAs, I found it complemented my accountant's work rather than replacing it. I used the insights from taxr.ai to ask my CPA better questions and challenge some assumptions. The visual flowcharts of how income moves between entities were particularly helpful for identifying where expenses should be claimed.

Wait, how does this actually work? Do they just call the IRS for you? I'm confused how a third party service could get through the IRS phone lines faster than I could myself.

Sorry, but this sounds like BS. Nobody can magically skip the IRS phone queue. They probably just keep redialing automated systems until they get through, which you could do yourself. I highly doubt they have some special "backdoor" to the IRS.

They use an automated system that continuously calls the IRS and navigates the phone tree until a spot opens up. When a representative becomes available, you get an immediate call connecting you directly to that IRS agent. You don't have to sit on hold yourself - they do the waiting for you. I was skeptical too, but I literally got connected in 38 minutes when I had previously spent over 4 hours on multiple calls trying to reach someone myself. It's not a "backdoor" - they're just using technology to handle the frustrating wait time problem.

Absolutely! Your S Corp's payroll expenses are completely separate from the LLC operations. The S Corp can (and should) deduct all valid payroll expenses including wages, employer-paid taxes, and benefits offered to employees. Here's the important distinction: The K-1 income from the LLC represents your S Corp's share of the LLC's profits, but your S Corp is still its own separate entity with its own separate expenses. Any legitimate business expenses incurred directly by the S Corp - including payroll - can be deducted against ALL income sources the S Corp has (including that K-1 income). Just make sure the payroll is properly structured and reasonable compensation rules are followed if you're an owner-employee of the S Corp.

That's super helpful, thanks! My accountant mentioned something about "reasonable compensation" requirements for S Corps but wasn't clear on how that interacts with the K-1 income flowing in. Does the K-1 income from the LLC affect how much I need to pay myself as reasonable salary from the S Corp?

The K-1 income does indirectly affect reasonable compensation considerations. The IRS expects S Corp owner-employees to take a "reasonable salary" before taking distributions, which means your salary should be comparable to what would be paid for similar services in your industry. When your S Corp receives additional income (like K-1 income from an LLC), it increases the total profit available in the S Corp. If your responsibilities or time commitment increase due to this additional business activity, it might justify a higher reasonable salary. The key test is always what's reasonable for the actual services you're providing to the S Corp. Remember that paying yourself too little in salary and taking large distributions instead can be a red flag for the IRS, as it can look like an attempt to avoid payroll taxes.

I did this last year. The paperwork is a pain, honestly. You need to formally admit the S Corp as a member of the LLC, which means amending the LLC operating agreement. Then there's the whole issue of how to value the membership interest if the S Corp is purchasing it rather than being granted it. We had to get a business valuation done which cost about $3,500.