WHAT'S A DUAL CLASS LLC?
A Dual Class LLC is a specialized type of Limited Liability Company (LLC) that allows for two distinct classes of ownership:
- General Members – Actively manage the business and participate in daily operations.
- Limited Members – Contribute capital but do not take part in business management.
This structure is designed to take advantage of IRS regulations, making it similar to a limited partnership for tax purposes while still offering the limited liability protections of an LLC.
The primary advantage of a Dual Class LLC is the reduction of Self-Employment (SE) Tax. Under this structure, Limited Members are not subject to SE Tax, which currently stands at 15.3% (12.4% for Social Security and 2.9% for Medicare). By strategically distributing ownership, business owners can optimize their tax liabilities while maintaining operational control.
A customized Dual Class Operating Agreement is required to establish this type of LLC, ensuring compliance with IRS guidelines and maximizing tax benefits.
Key Benefits of a Dual Class LLC
1. Self-Employment Tax Savings
One of the most significant benefits of a Dual Class LLC is the ability to minimize or eliminate Self-Employment Tax for certain members:
- General Members (Class A) actively participate in business operations and are subject to SE Tax on their earnings.
- Limited Members (Class B) contribute capital but do not manage the company, allowing their profits to be exempt from SE Tax.
By properly structuring ownership, business owners can significantly reduce their overall tax burden.
2. Flexible Ownership & Profit Distribution
Unlike an S Corporation, which requires proportional profit distribution based on ownership percentage, a Dual Class LLC allows for customized allocations:
- General Members may receive compensation through management or consulting fees.
- Limited Members receive a preferred return on their capital contributions.
This flexibility in profit distribution provides strategic financial advantages for both active and passive investors.
3. Limited Liability Protection
Like any LLC, a Dual Class LLC provides limited liability protection for its Members:
- General Members are protected from personal liability beyond their capital contributions.
- Limited Members have no operational control, further reducing their legal exposure.
This structure ensures that personal assets remain separate from business debts or legal claims.
3. Limited Liability Protection
Like any LLC, a Dual Class LLC provides limited liability protection for its Members:
- General Members are protected from personal liability beyond their capital contributions.
- Limited Members have no operational control, further reducing their legal exposure.
This structure ensures that personal assets remain separate from business debts or legal claims.
4. IRS Compliance & Legal Structuring
A Dual Class LLC must follow IRS guidelines to maintain its tax benefits:
- General Member compensation must not be a fixed salary, as guaranteed payments are subject to SE Tax.
- The LLC must be structured with a properly drafted Dual Class Operating Agreement to ensure compliance.
With the right legal documentation, business owners can fully benefit from a Dual Class LLC while remaining IRS-compliant.
How a Dual Class LLC Structure Works
A Dual Class LLC is divided into two membership categories:
Class A – General Member Units
- Consists of active managers responsible for daily business operations.
- Receives a preferred return of income, such as management or sales fees, based on the LLC’s profitability.
- Compensation must not be fixed, as guaranteed payments are subject to Self-Employment Tax.
Class B – Limited Member Units
- Composed of passive investors who contribute capital but do not manage the business.
- Qualifies for limited partner status, which exempts income from SE Tax.
- Receives preferred-priority profit distributions based on their capital contributions.
This structure allows businesses to separate operational management from passive investment, ensuring both tax efficiency and financial stability.
Single-Member Dual Class LLC vs. Multi-Member Dual Class LLC
A Dual Class LLC can be structured as either a Single-Member LLC or a Multi-Member LLC, each offering unique tax advantages.
Single-Member Dual Class LLC
- The single Member can allocate up to 66.67% of ownership to the Limited Member class, ensuring that this portion of income is not subject to SE Tax.
- The remaining 33.33% of ownership is assigned to the General Member class, which is subject to SE Tax.
The General Member receives a priority return of income in the form of consulting, management, or sales fees—but only if the LLC is profitable.
Multi-Member Dual Class LLC
- In a Multi-Member Dual Class LLC, tax savings can be equal to or greater than those in a Single-Member Dual Class LLC.
- Certain Members may completely avoid Self-Employment Tax if they qualify for Limited Member status.
In some cases, 100% of a Member’s income could be exempt from SE Tax, depending on their level of active participation in the LLC.
By structuring ownership strategically, business owners can optimize tax efficiency and protect their financial interests.
How to Form a Dual Class LLC
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Choose a Business Name
The LLC name must be unique and comply with state regulations. It should:
- Include “LLC” or “Limited Liability Company” in the name.
- Not be identical to another registered business in the state.
Perform an Entity Lookup to check name availability before filing.
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File Articles of Organization
To establish a Dual Class LLC, you must file Articles of Organization with the state. This document includes:
- The LLC’s name and business purpose.
- The names and roles of General and Limited Members.
- The Registered Agent’s information.
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Draft a Dual Class Operating Agreement
A Dual Class Operating Agreement is essential to ensure IRS compliance and proper profit distribution. It defines:
- Ownership percentages for General and Limited Members.
- Allocation of income and losses between Members.
- Voting rights and decision-making processes.
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Obtain an Employer Identification Number (EIN)
An EIN from the IRS is required for:
- Filing federal taxes.
- Opening business bank accounts.
- Hiring employees.
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Maintain IRS Compliance & Tax Filings
To ensure ongoing compliance, the LLC must:
- Properly allocate profits between General and Limited Members.
- Avoid fixed salary payments that could trigger Self-Employment Tax.
- File annual tax returns and maintain accurate records.
With proper legal structuring, a Dual Class LLC can maximize tax savings while staying fully compliant with IRS regulations.
Why Choose a Dual Class LLC?
A Dual Class LLC is an ideal structure for business owners looking to:
- Reduce Self-Employment Tax liabilities.
- Maintain legal liability protection.
- Attract passive investors while retaining management control.
- Customize profit-sharing arrangements based on ownership class.
- For those considering a Dual Class LLC, a properly drafted Dual Class Operating Agreement is crucial to ensure compliance and maximize tax advantages.
Start Your Dual Class LLC Today
Start your business the right way — create your Dual Class LLC with Spiegel & Utrera, P.A. — trusted, experienced, and ready to help you succeed!