How are Partnership Guaranteed Payments to an S Corporation Holding Company Taxed for Self-Employment?

So just to clarify, the guaranteed payment avoids SE tax completely? I always thought all guaranteed payments were automatically subject to SE tax no matter what. Does this also apply if the S Corp is a member of an LLC taxed as a partnership?

The guaranteed payment itself isn't automatically subject to SE tax when paid to an S Corporation. The payment becomes ordinary business income to the S Corp. The S Corp then needs to pay a reasonable salary to its shareholder-employees, and that salary is subject to FICA taxes (similar to SE tax). Yes, this would apply if the S Corp is a member of an LLC taxed as a partnership. The key is that business entities like S Corporations aren't subject to self-employment tax - only individuals are. The S Corp serves as a blocker entity for SE tax purposes, but you still need to take that reasonable salary to avoid IRS scrutiny.

How exactly does taxr.ai work? I've got a similar setup with LLCs and an S-Corp, and my accountant keeps giving me vague answers about guaranteed payments.

Sounds interesting but kinda skeptical. How does an AI know better than a CPA who's been doing this for years? Did they actually cite specific tax law or just give general advice?

The way it works is you upload your tax documents or type in your specific tax scenario, and their AI analyzes the relevant tax code and regulations. It then provides explanations with citations to the actual tax code sections. For my situation, it specifically referenced IRC Section 707(c) regarding guaranteed payments and how they're treated when flowing to an S Corporation. The difference is that it's not just general advice - it analyzes your specific situation. My CPA is great but wasn't specialized in this particular area of tax law. The AI pulled relevant case law and IRS guidance that specifically addressed my situation with multiple entity structures, which gave me documentation to back up the tax treatment we ultimately used.

Wait so how does this Claimyr thing actually work? I've been trying to call the IRS about a similar business structure issue for weeks. They just keep disconnecting me after I wait on hold forever.

Sorry but I'm calling BS on this. There's no way to "skip the line" with the IRS. They barely answer their phones at all these days and when they do, the agents rarely know anything about complex business structures. Sounds like a scam to me.

It's not actually skipping the line - they have a system that calls the IRS and waits on hold for you. When their system gets through to an agent, they call you and connect you directly to the IRS agent. It's basically like having someone wait on hold in your place instead of you having to listen to that awful hold music for hours. They don't guarantee you'll get an agent who knows about your specific tax situation, but at least you get to speak to someone. In my case, I got lucky with an agent who had knowledge about partnership taxation. Even if you don't get the perfect expert, getting any confirmation from the IRS can help protect you if there are questions later.

That's interesting - could you explain more about how the guaranteed payments shift income between partners? I'm trying to set up something similar but worried about unintended consequences.

Guaranteed payments are basically treated as expenses of the partnership before profits are calculated and allocated based on ownership percentages. Let's say you have a partnership where Partner A owns 80% and Partner B (your S-Corp) owns 20%, but you want Partner B to receive more income than just the 20% profit share would provide. By making guaranteed payments to Partner B, you reduce the overall profit of the partnership that gets divided according to the 80/20 split. This effectively shifts more income to Partner B than they would receive through just the profit allocation. The opposite can also happen - if the guaranteed payments aren't carefully structured, you might inadvertently shift too much income to one partner.

Yes, it would work similarly with a C corporation as the holding company. The guaranteed payment from the partnership to the C corporation would be ordinary business income to the C corp and taxed at the corporate tax rate (currently 21%). The main difference is that with a C corp, you'd have potential double taxation on distributions to you as the shareholder (dividends), whereas the S corp income flows through directly to your personal return. But the treatment of the guaranteed payment itself at the partnership-to-corporation level is essentially the same. The C corp structure can be advantageous in certain situations, especially if you're reinvesting profits rather than distributing them.

Great point about the timing and reasonableness considerations! I haven't personally faced an IRS challenge yet, but my tax preparer mentioned that the IRS typically looks at guaranteed payments under the same scrutiny as reasonable compensation for S-Corp shareholders - they want to see that the payments are commensurate with services actually provided or capital contributed. From what I understand, the key is documenting the business purpose and having clear service agreements or capital contribution documentation. If your S-Corp holding company is providing legitimate management services, financing, or other valuable functions to the partnership, that helps justify the guaranteed payments. One thing I'm curious about - have you considered whether the guaranteed payments might trigger any issues with the passive activity rules if your S-Corp isn't materially participating in the partnership's business? I've read conflicting information about whether guaranteed payments can help establish material participation for the holding company structure.

@Mei Wong brings up a crucial point about material participation that I think deserves more discussion. From my research and conversations with my tax attorney, guaranteed payments alone typically don t'establish material participation for the receiving entity. Material participation generally requires actual involvement in the day-to-day operations, management decisions, or providing substantial services. However, if your S-Corp holding company is genuinely providing management services, strategic oversight, or other substantial business functions to the partnership beyond (just capital ,)then the guaranteed payments can be part of demonstrating that material participation. The key is having real substance behind the arrangement. Regarding reasonableness challenges, I ve'heard from colleagues in similar structures that the IRS tends to focus on whether the guaranteed payments reflect fair market value for actual services provided. Document everything - management agreements, meeting minutes, time logs if applicable, and benchmark the compensation against what you d'pay an unrelated third party for similar services. One more consideration for @Carter Holmes - have you looked into whether your guaranteed payment arrangement might need to comply with Section 409A deferred compensation rules? This can be an issue if the payments aren t made'within a reasonable time after the services are performed.

@Toot-n-Mighty raises an excellent point about Section 409A that I hadn't considered! That's definitely something I need to discuss with my attorney. Regarding the material participation issue, I've been documenting everything as you suggested. My S-Corp holding company provides quarterly strategic reviews, oversees major capital decisions, and handles centralized financial management for multiple partnerships. I keep detailed records of time spent and decisions made. One thing I've learned is that the "hours test" for material participation can be tricky with holding company structures. Even if you're spending significant time on management activities, the IRS might argue that time spent managing investments doesn't count toward the 500-hour threshold unless you're involved in the day-to-day trade or business activities. Has anyone successfully used the "facts and circumstances" test under the material participation rules for a holding company structure? I'm wondering if demonstrating substantial decision-making authority and ongoing involvement might be more reliable than trying to meet the specific hour requirements.

Great point about the partnership agreement language, @Rebecca Johnston! The distinction between payments for "services" versus "use of capital" is really important and something I wish more people understood when setting up these structures. Regarding Texas franchise tax, I can share some insight since I dealt with this recently. Texas treats guaranteed payments flowing to an S-Corp as part of the corporation's total revenue for franchise tax purposes. So if your S-Corp holding company receives $200K in guaranteed payments from partnerships, that gets included in the gross receipts calculation for the franchise tax. The good news is that Texas has a relatively low franchise tax rate (0.375% for most businesses), but it's still an additional cost to factor in. One thing to watch out for is that Texas also has specific rules about how they treat pass-through entities in tiered structures. If your partnerships are also doing business in Texas, you might need to deal with franchise tax obligations at multiple levels. I'd definitely recommend getting Texas-specific advice since their rules can be quite different from federal treatment. The health insurance deduction benefit you mentioned for C-Corps is huge if you have significant medical expenses. Have you run the numbers on the total tax impact including the double taxation versus the S-Corp flow-through treatment?

@Noland Curtis, great questions about the restructuring process! I went through something similar about 18 months ago and learned some valuable lessons. First on timing - I'd recommend forming the S-Corp holding company first and getting your corporate formalities in place (bylaws, shareholder agreements, etc.) before restructuring the existing LLC. This gives you time to establish the business purpose and management functions that will justify the guaranteed payments later. When converting from single-member LLC to partnership, the biggest gotcha is the deemed distribution/contribution that occurs for tax purposes. If your LLC has appreciated assets or liabilities, this conversion can trigger taxable events. Also, once you add the S-Corp as a partner, you'll need to file Form 1065 instead of Schedule C, which changes your tax compliance obligations significantly. One thing I wish I'd done differently - start documenting the holding company's management activities from day one, even if they seem obvious. Keep meeting minutes, decision logs, and time records showing the strategic oversight, financial management, and coordination services the holding company provides. The IRS loves to see contemporaneous documentation if they ever question the reasonableness of guaranteed payments. Also consider whether you'll need to register the S-Corp in multiple states if your LLCs operate across state lines - that can add complexity and costs you might not expect.

@Connor O'Reilly, you've brought up a really important aspect that I don't think gets enough attention! The QBI implications can definitely add another layer of complexity to these structures, but also potential benefits if planned correctly. One thing I've learned from working with my tax advisor is that the guaranteed payments can actually help with QBI planning in certain situations. Since the partnership gets a deduction for the guaranteed payment (reducing their QBI), but the S-Corp reports it as ordinary business income (potentially eligible for QBI), you might be able to better manage the overall QBI benefit across the structure. The aggregation rules you mentioned are particularly tricky. From what I understand, you can potentially aggregate the partnership and S-Corp activities if they meet the aggregation requirements (common ownership, integrated businesses, etc.), which could help with the QBI calculations. But you're right that having multiple income sources flowing into the S-Corp holding company makes this more complex. I'm curious - have you considered how the W-2 wages limitation might apply in your structure? Since the S-Corp holding company might not have significant W-2 wages if it's primarily receiving guaranteed payments and managing investments, that could limit the QBI benefit even if the income otherwise qualifies. Definitely agree on working with a specialist - this is way too complex to DIY, especially when you factor in state tax implications and the ongoing compliance requirements!

@Sean Fitzgerald, excellent questions that really get to the practical implementation side of things! Regarding reasonableness thresholds, there aren't specific safe harbors for guaranteed payments like there are for S-Corp reasonable compensation, but the IRS generally applies similar principles. I've seen tax attorneys recommend starting with what you'd pay an unrelated third party for similar management services - think about fees for investment management, strategic consulting, or family office services in your market. For smaller operations, this might be 1-2% of assets under management, while larger portfolios might justify lower percentages but higher absolute amounts. On the cost-benefit analysis, I've found the break-even point is typically around $75K-100K in SE tax savings annually to justify the additional compliance costs, but this varies significantly by state. States like Nevada or Wyoming with no state income tax and minimal franchise fees make the math work at lower thresholds, while high-tax states like California or New York require much larger savings to justify the complexity. For documentation, beyond meeting minutes and time logs, maintain investment committee reports, quarterly performance reviews, vendor management records, insurance coordination documents, and correspondence showing strategic decision-making. The key is demonstrating ongoing, substantive business activities rather than passive investment management. Timeline-wise, I'd budget 6-9 months for proper implementation including entity formation, agreement drafting, tax planning, and establishing operational procedures. Rushing this type of structure is asking for problems down the road!

@Yuki Tanaka, this is exactly the kind of practical guidance I was hoping to find! The point about having a formal management services agreement in place before starting payments is crucial - I can see how that would provide much stronger documentation than trying to justify the arrangement after the fact. Your suggestion about forming the S-Corp in a tax-friendly state is intriguing. I'm curious about the "sufficient business activity and substance" requirement you mentioned. What does that typically look like in practice? I'm wondering if having the holding company's bank accounts, board meetings, and key decision-making activities in the formation state would be enough, or if there are more specific requirements to establish real business presence. The timing point about tax year-ends during LLC conversion is something I definitely need to discuss with my tax advisor. I hadn't considered how the deemed contribution/distribution could create unexpected consequences depending on when in the tax year the conversion happens. One follow-up question on the cost-benefit analysis - have you seen situations where the guaranteed payment structure makes sense even at lower income levels if someone has multiple partnerships or LLCs? I'm thinking the administrative efficiency of centralizing management through the holding company might justify the structure even when the pure SE tax savings alone wouldn't meet the typical thresholds. Thanks for sharing such detailed practical insights - this is exactly the kind of real-world implementation guidance that's hard to find!

@A Man D Mortal raises a great question about the multiple entity scenario! From my experience, the administrative efficiency can absolutely justify the structure at lower income thresholds when you have several LLCs or partnerships. I ve seen this'work well when someone has 3+ entities generating combined income of $150K+ annually, even if each individual entity might not justify guaranteed payments on its own. The key is that the holding company can provide legitimate centralized services like consolidated financial reporting, coordinated tax planning across entities, unified banking relationships, and streamlined vendor management. These efficiencies often create real business value beyond just the SE tax savings. Regarding @Yuki Tanaka s point about establishing'substance in the formation state - from what I ve seen work successfully,'you typically need the holding company to have its primary bank account, registered office with actual business activity not just a mail (drop , board meetings conducted)in-state, and key contracts signed there. Some states have specific nexus requirements that can "trip" you up if you re too aggressive about'trying to avoid tax in your home state while maintaining minimal presence in the formation state. One thing I d add to the'management services agreement discussion - make sure the agreement includes specific deliverables and reporting requirements. Having quarterly management reports, annual strategic plans, or monthly financial summaries that the holding company actually produces helps demonstrate the substantive nature of the services being provided. Has anyone dealt with the uniform capitalization rules Section 263A when the (holding company) is providing services to partnerships engaged in production activities? This can add another layer of complexity to the guaranteed payment arrangements.