Spousal partnership vs sole proprietorship

[jpdx]

My spouse and I have a multi-member LLC taxed as a partnership. As we transition to quasi-retirement, I'm not sure how to proceed. In recent years, we have been more selective about which work projects we take on, only earning 10-25k of profit, and predominantly only one partner has been working in the business.

Does it make sense to convert the LLC to a sole proprietorship? This would save the hassle and expense of filing a partnership tax return for both fed and state, which is always a PITA. However, if the other spouse wants/needs to take on a project and work in the business, then I think the sole proprietor needs to hire them as an employee, which also sounds like a PITA. In our line of work, it is impossible to predict which opportunities will come down the road so planning ahead is difficult. What should we do?

[jpdx]

Anyone?

Reasons to keep the partnership:
+ Potential for more deductions (expenses for both spouses)
+ Ready to go if/when both spouses work
+ Emotional reasons for keeping both spouses in the business

Reasons to switch to sole proprietorship:
+ Greatly simplified tax filing (many hours less work, and savings of $300/year)

Anything I didn't consider?

[seattlecyclone]

Are you aware of the qualified joint venture election? In essence, when you have a partnership owned only by a married couple you are allowed to split up your income and expenses across two Schedules C instead of filing a partnership return.

[jpdx]

@seattlecyclone I would love to file using QJV election, as this would completely address my problem. My understanding is this option is only available for LLCs in community property states, and we live in a separate property state.

[seattlecyclone]

@seattlecyclone I would love to file using QJV election, as this would completely address my problem. My understanding is this option is only available for LLCs in community property states, and we live in a separate property state.

Yes it looks like you would need to dissolve the LLC, but you could keep it as a jointly owned entity without having to choose that it's only one spouse's sole proprietorship and treating the other spouse as an employee if they do work.

[jpdx]

@seattlecyclone This is temping, but then we would lose liability protection, and whatever legitimacy (perceived or real) that is offered by having a separate business entity.

I also would need to confirm that filling out two Schedule Cs is actually going to be easier. I assume that managing this will be difficult in my tax software because everything must be duplicated and split manually (two asset depreciation schedules, two vehicle entries, etc).

[SeattleCPA]

Seems like it'd make sense accounting-wise for one of you guys to just stop being a member.  That'll turn your multiple member LLC into a single member LLC. A single member LLC is a disregarded entity for tax purposes... so a sole proprietorship.

P.S. You'd want to do this effective 12/31/2023 and when you file final 1065 tax return indicate that it's the final partnership return.

[jpdx]

I think that's what we'll do. Thank you for your advice. I figure if the second spouse performs a small amount of short-term work for the business, this can be on a volunteer basis, and if they wind up having a more substantial role they can be hired as an IC or employee.