Adding a Member to Your LLC: Partnership, New EIN, Form 1065

Does a single-member LLC become a partnership when you add a member?

Yes, by default. A single-member LLC that is disregarded for federal tax (its income goes on your own return) becomes a partnership when it has more than one member (26 CFR 301.7701-3(f)(2); IRS Publication 3402). From the admission date it files Form 1065 and gives each member a Schedule K-1. An LLC that elected to be taxed as a corporation keeps that classification whatever its number of members (26 CFR 301.7701-3(f)(1)). To be taxed as a corporation instead, the LLC files Form 8832, signed by each member or one authorized to sign, which takes effect no more than 75 days before it is filed; for S corporation tax it files Form 2553, with every shareholder's consent, within 2 months and 15 days after the tax year it covers begins (Form 8832; Form 2553 instructions). See how the IRS classifies your LLC.

The simplest case is an unrelated US person paying cash into a debt-free LLC on a clear date. It is not simple when the new member pays you instead of the LLC, the LLC has debt, cash comes back out to you, you or the new member live outside the US, the new member earns the interest by working, the LLC is an S corporation, or the member joined in an earlier year and no partnership return was filed.

Gather the admission date, the price or contribution, the new member's SSN or ITIN, a balance sheet on that date showing each asset's tax basis and every debt, the EIN confirmation letter, the operating agreement, the year's 1099s and your last Schedule C.

Buying in or putting money in: how is each taxed?

Who receives the money decides the tax. In Revenue Ruling 99-5, a new member who buys part of your interest makes you sell part of each LLC asset; a new member who contributes cash to the LLC triggers no gain for either of you (26 U.S.C. 721). Publication 3402 repeats both outcomes.

The ruling assumed the LLC held only capital and section 1231 assets (such as investments, and land, buildings or equipment used in the business for more than a year; not inventory or receivables), had no debt, and would not be an investment company (one holding mainly stocks or securities) if incorporated, since the no-gain rule does not apply to gain on a transfer to one (26 U.S.C. 721(b)). Real cases often differ:

• Inventory, receivables or depreciated equipment in a sale of your interest need their own character review. For figuring the gain on the price, see buying out a partner.
• LLC debt: when the new member pays the LLC and comes to share its debt, the drop in your share counts as cash paid to you (26 U.S.C. 752(b)), taxable to the extent it exceeds your basis (26 U.S.C. 731(a)). If they pay you instead, the debt can also add to your gain on the sale.
• Cash passed through to you: you are treated as contributing the LLC's assets, so a payment from the LLC to you within 2 years of that is presumed part of a sale unless the facts clearly show otherwise (Publication 541). A normal share of operating cash flow is presumed not to be (26 CFR 1.707-4(b)). Ruling 99-5's contribution case assumed the LLC kept the cash for its business.
• Interest for work, not money: see splitting ownership between LLC partners.

Do I need a new EIN when adding a member to my LLC?

It depends on whose number the LLC has been using. An entity with its own EIN keeps it when its tax classification changes; once a single-owner entity is recognized as a separate entity for federal tax, it must use its own EIN, or get one if it has none (26 CFR 301.6109-1(h)).

The SS-4 instructions address this exact change, a disregarded entity that acquired more owners and became a partnership; the IRS page on when to get a new EIN does not list it by name. To know which row is yours, check the name on the EIN confirmation letter: if it shows the LLC's name, the LLC keeps that EIN; if it shows yours, the LLC needs its own. IRS records may still show the old classification after the change; see how the IRS classifies your LLC.

Single-member to multi-member LLC: which returns cover that year?

Two returns cover the year: your own return for the period before the admission date (Schedule C, or Schedule E or F for rental or farm income; Publication 3402), and the LLC's Form 1065 from that date. A partnership generally uses its majority partners' tax year, so two calendar-year individuals give it a calendar year (26 U.S.C. 706(b); Form 1065 instructions).

Close the books on the admission date so each item lands on the right return. On the first Form 1065, check Initial return in item G (Form 1065) and fill in the short tax year at the top of the form and each K-1. A calendar-year partnership's return is due March 15, or 6 months later if Form 7004 is filed by that date (Form 1065 instructions; Form 7004 instructions).

Keeping Schedule C for the whole year is the trap. A late or incomplete Form 1065 costs $260 for each partner for each month, up to 12 months, plus up to $340 per late or wrong K-1 (more if the failure is intentional), unless there is reasonable cause (Revenue Procedure 2025-32; Form 1065 instructions).

What goes in each member's capital account on day one?

Each member starts the first Form 1065 at zero and is credited with what they are treated as contributing. When item L of the K-1 is completed (it is optional if the partnership answers Yes to Schedule B question 4), it uses the tax-basis method: cash plus the adjusted tax basis of property contributed, less debts the partnership takes on with it (Form 1065 instructions). Under Revenue Ruling 99-5, both members contribute on the admission date:

If the operating agreement credits your capital at the assets' agreed value, that figure will differ from your K-1 tax capital whenever the assets are worth more or less than their basis. Whatever the agreement says, income and deductions from contributed assets must be shared to account for any gap between their value and basis, which generally keeps the built-in gain with you (26 U.S.C. 704(c)). For keeping the accounts after day one, see partner capital accounts.

Why amend the operating agreement?

Each member's share of profit and loss is set by the partnership agreement; if it is silent, or its allocations lack substantial economic effect (do not match who actually bears the gain or loss), shares follow each member's interest on all the facts (26 U.S.C. 704(a) and (b)). A single-member agreement says none of this. Changes agreed by all members by the Form 1065 due date, not counting extensions, count as part of that year's agreement (26 U.S.C. 761(c)), so an amendment signed after the admission date can still set the first short year's shares.

For an LLC taxed as a partnership, an amended agreement usually states each member's opening capital and percentage, how profit, loss and cash are shared, and what happens when someone leaves; an LLC taxed as an S corporation has stricter limits, covered below. Unless the partnership validly elects out of the centralized audit rules, each Form 1065 must also designate a partnership representative, who has sole authority to act for it in an IRS audit (Form 1065 instructions). An IRS adjustment to a Form 1065 year before a member joined is generally paid by the partnership in the year the audit ends, so that member can bear part of its cost, unless the partnership elects within 45 days of the final notice to pass it to that year's members (26 U.S.C. 6225; 26 U.S.C. 6226). For the tax terms to include, see operating agreement tax terms.

What to update: W-9s, payroll, bank and state accounts

Every payer needs a new Form W-9. While the LLC was disregarded, its W-9 showed your SSN or EIN (Publication 3402); now it shows the LLC's EIN, with the LLC box and P for partnership (Form W-9).

What changes if the new member is your spouse?

Adding a spouse usually makes the LLC a partnership too. The exception: spouses who own the LLC entirely as community property under state, foreign or US territory law may treat it as either a partnership or a disregarded entity (Revenue Procedure 2002-69). The qualified joint venture election is not available for a business owned through an LLC (IRS: Married couples election). See spouse and family LLCs.

Can an LLC taxed as an S corporation add a member?

Yes, if the new owner is an eligible shareholder; check before they sign. The LLC stays a corporation and keeps filing Form 1120-S, not Form 1065 (26 CFR 301.7701-3(f)(1)). Only individuals, estates, certain trusts and certain tax-exempt organizations can hold shares, and not a nonresident alien, so a partnership (including a multi-member LLC) or a corporation cannot join (26 U.S.C. 1361(b)); the full list is in S corporation eligibility. The amended operating agreement matters too: if it gives the new member different rights to distributions or liquidation proceeds, that can count as a second class of stock, which the corporation cannot have (26 CFR 1.1361-1(l)); see operating agreement tax terms.

If an ineligible owner joins, the election ends on that date (26 U.S.C. 1362(d)(2)). If that has already happened, the IRS can treat the election as never ended when the termination was inadvertent and is fixed within a reasonable time after it is found (26 U.S.C. 1362(f)). If the election holds, that year's income is shared per share, per day (26 U.S.C. 1377(a)).

Do you have to amend the articles or tell the state?

It depends on what your state's filings list. If your articles of organization or annual report name the LLC's members or managers, check the Secretary of State's website for whether the new member is added by an amendment or at the next report. State law and your agreement govern how a member is admitted. Whether your state taxes the new partnership or its members is covered in how partnerships are taxed.

Example

These examples are illustrative, in US dollars, and assume a calendar year, an LLC with no debt that does not mainly hold stocks or securities, and no cash paid back out.

A new member buys part of your interest

An owner sells 30% of her LLC interest to a new member for $60,000 on July 1. The LLC's assets have a $100,000 tax basis, all capital or section 1231 assets. She is treated as selling 30% of each asset: $60,000 less $30,000 of basis is a $30,000 gain, figured asset by asset. Her Schedule C covers January 1 to June 30. The LLC files Form 1065 from July 1, opening with $60,000 of tax capital for the new member and $70,000 for her.

A new member contributes cash

A new member puts $50,000 into the LLC for half of it on April 1, and the LLC spends it in the business. The LLC's assets have a $20,000 tax basis and are worth $50,000. Neither member owes tax on the contribution. The first Form 1065 runs April 1 to December 31 and is due the following March 15. Tax capital opens at $50,000 for the new member and $20,000 for the owner. If the agreement credits the owner at $50,000, section 704(c) generally keeps that $30,000 of built-in gain with the owner.

An S corporation LLC adds a member living abroad

An LLC taxed as an S corporation plans to admit a member who is a nonresident alien. A nonresident alien cannot be a shareholder, so the election would end on the admission date and the year would split into an S part and a C part. The owners check eligibility first.

Different for you?

• The new member pays you, or the LLC has debt: figure the gain with buying out a partner, and get corporate tax help before you sign.
• A member joins partway through this year: the year splits between your Schedule C and a first short-year Form 1065; get bookkeeping to close the books on the admission date and corporate tax help for the Form 1065.
• A member joined in an earlier year and you kept filing Schedule C: late Form 1065 penalties grow each month per partner; see late partnership return penalty relief and get corporate tax help to file the missing returns.
• You or the new member live outside the US: the partnership may have to withhold tax on a foreign member's share of its US business income (26 U.S.C. 1446(a)), and a member without an SSN or ITIN needs one for the K-1; see foreign partners withholding, foreign-owned single-member LLC filing for the months before, and cross-border tax help.
• Your LLC is taxed as an S corporation: check S corporation eligibility and get corporate tax help before anyone signs, or at once if an ineligible owner already joined.
• The new member is your spouse: see spouse and family LLCs.
• The new member earns the interest by working: see splitting ownership between LLC partners.
• Two sets of capital accounts from now on: see partner capital accounts and bookkeeping.
• The member later leaves and you are alone again: see LLC down to one member.