How to Create a K-1 for an LLC (w/Examples) + FAQs

The K-1 is a tax form that shows each owner’s share of money earned or lost by an LLC. When you run an LLC with two or more owners, you must give each owner a K-1 form by March 15 every year so they can file their personal taxes. The reason you need to send these forms is because of Section 6031 of the Internal Revenue Code, which requires partnerships and multi-member LLCs to report each member’s income. If you do not send K-1 forms on time, the IRS can charge you $310 per late K-1 form, and those charges add up fast when you have multiple owners. This article shows you step-by-step how to fill out and send the K-1, what information goes in each box, common mistakes that cost money, and the real-world examples you need to understand.

What is a K-1 and Who Gets One?

The K-1, called Schedule K-1, is part of the bigger tax form called Form 1065, which is the tax return for partnerships and multi-member LLCs. Think of it like a pizza that the LLC earned together—the K-1 cuts that pizza into slices so each owner gets their piece on their own tax return. The LLC itself does not pay taxes. Instead, the money “passes through” to each owner’s personal return, and that is why we call these “pass-through entities.”

You only issue K-1 forms if your LLC has two or more members. A single-member LLC (owned by just one person) does not use K-1 forms. That single owner just reports the LLC income on their personal return using Schedule C, which is much simpler. If you have an LLC that starts with one owner but adds a second owner later, you must change how you file taxes and start issuing K-1 forms the next year.

LLCs taxed as S-corporations also issue K-1 forms, but those are called Schedule K-1 (Form 1120-S) instead of the partnership version. The forms look similar but they come from different IRS forms. You also get a K-1 if you own part of an S-corporation or a partnership, even if those entities are not LLCs.

The Two Key Federal Forms You Need to Understand

Form 1065 is filed by the LLC itself. This form shows all the business income, all the business expenses, and all the deductions for the whole LLC in one place. The LLC files Form 1065 on March 15 (if the LLC uses a calendar year) with the IRS at the federal level. This form is informational, meaning it is just to tell the IRS what happened—the LLC does not pay taxes based on it.

Schedule K-1 is the form the LLC creates for each individual owner. If your LLC has three owners, you make three different K-1 forms. Each K-1 shows that specific owner’s share of the income, losses, deductions, and credits. If Owner A owns 50% of the LLC and Owner B owns 50%, Owner A gets one K-1 showing their 50% share, and Owner B gets a K-1 showing their 50% share.

The relationship is simple: Form 1065 is the big report. Schedule K-1 is the piece of that report that belongs to one person. Every number on the K-1s must add up to match the Form 1065 totals.

When Do You Need to File K-1 Forms? The Three Key Deadlines

For Federal Taxes: The LLC must file Form 1065 and issue K-1 forms to members by March 15 if you use a regular calendar year (January through December). If your LLC uses a different tax year, the deadline is the 15th day of the third month after your year ends. For example, if your LLC’s year ends June 30, you file by September 15.

You can ask for a six-month extension by filing Form 7004, which moves the deadline to September 15 for calendar-year LLCs. However, this extension only gives you more time to file—it does not give you more time to pay taxes owed. Members must still pay their taxes by April 15 even if the LLC gets an extension.

For State Taxes: Many states also require K-1 forms. States like California, New York, and New Jersey have strict rules. If your LLC does business in multiple states or members live in different states, you may need to create separate state K-1 forms showing income earned in each state. Some states require the LLC to withhold taxes from members who are not residents of that state.

For Members: Each member must receive their K-1 by the same deadline the LLC files with the IRS (unless the operating agreement says otherwise). If you miss this deadline, members cannot file their own tax returns on time, and they may face penalties. It is smart to send K-1s early if you can, so members have time to get them to their accountants.

What is a Multi-Member LLC and Why Does Tax Treatment Matter?

A multi-member LLC is simply an LLC owned by two or more people. By default, the IRS taxes multi-member LLCs as partnerships. This means the LLC files Form 1065 and issues K-1s. However, an LLC has the power to elect to be taxed as an S-corporation instead by filing Form 2553 with the IRS. This election changes how the LLC pays taxes and can save owners money on self-employment taxes.

If an LLC elects S-corp status, it still issues K-1 forms, but they are called Schedule K-1 (Form 1120-S). The form layout is slightly different. S-corp K-1s require owners to pay themselves a “reasonable salary” as an employee before taking profits as distributions, but this can lower the total self-employment taxes paid to Social Security and Medicare.

For the purposes of this article, we focus mainly on multi-member LLCs taxed as partnerships (Form 1065 / Schedule K-1), since that is the default setup. At the end, we will show how S-corp K-1s differ slightly.

Five Things You Will Learn From This Article

📌 How to fill out Schedule K-1 line by line—Every box, every number, and what it means for each member.

📌 The difference between ordinary income, guaranteed payments, and distributions—And why each one matters for your taxes.

📌 Real-world examples for rental real estate, consulting, and e-commerce LLCs—So you see exactly how the numbers flow.

📌 Common mistakes that trigger IRS penalties—And how to catch them before filing.

📌 How passive activity losses, basis limits, and Section 199A work—The advanced rules that affect what members actually owe.

Breaking Down Form 1065 and Schedule K-1: The Anatomy

Form 1065 has three main parts. Part I asks for basic information about the LLC—the name, address, EIN (Employer Identification Number), and what type of business you run. Part II asks about the members—their names, Social Security numbers, and how much each one owns. Part III shows the income and expenses for the whole LLC.

Schedule K-1 also has parts. Part I repeats the LLC information from Form 1065. Part II shows information about the individual member receiving the K-1—their name, address, Social Security number, and what percentage they own. Part III shows that member’s share of income, deductions, credits, and other items.

Here is the key difference: Form 1065 shows totals for everyone. Schedule K-1 shows one member’s piece.

Form or Schedule	Who Completes It	Who Gets It	When It Is Due
Form 1065	The LLC	The IRS	March 15 (or extended date)
Schedule K-1	The LLC	Each member	March 15 (or extended date)

The Operating Agreement and Income Allocation: Your Foundation

Before you can issue a K-1, you need an operating agreement for the LLC. This is the legal document that spells out how profits and losses are split among members. The operating agreement might say profits are split equally, or it might say they are split based on ownership percentage, or it might have a special arrangement.

For example, imagine you and your friend start an LLC that buys and flips houses. Your operating agreement says: “Partner A owns 60%, Partner B owns 40%. All profits and losses are split by ownership percentage.” This means Partner A gets 60% of the profit shown on Form 1065, and Partner B gets 40%. Their K-1s will reflect these splits.

However, operating agreements can also have special allocations. For example, maybe one partner contributed more cash than the other, so the agreement says that partner gets a higher share of profits until their extra cash is “paid back.” Or maybe one partner does all the work and gets a guaranteed payment (like a salary). These special arrangements must be spelled out in the operating agreement and reported correctly on Schedule K.

The operating agreement is also important for another reason: it might state that each member gets a guaranteed payment. A guaranteed payment is money that does not depend on whether the LLC made a profit—the member gets paid anyway, like a salary. If your operating agreement says Partner A gets paid $30,000 per year no matter what, that $30,000 is a guaranteed payment. This affects the K-1.

Scenario 1: Equal Ownership, No Guaranteed Payments

What Happens	How It Flows to K-1
LLC earns $100,000 ordinary income	Split 50/50: Each member gets $50,000 in Box 1
LLC has $10,000 charitable donations	Split 50/50: Each member gets $5,000 to deduct
LLC distributes $40,000 cash to each member	Shown in Box 16 (Distributions) as $40,000 each
One member sold their rental property—$20,000 gain	Each member’s share of capital gains shown in Box 9

In this simple scenario, everything splits equally because the operating agreement says so and there are no special payments. Both members get identical K-1s, just with their names and Social Security numbers different.

Scenario 2: Unequal Ownership with Guaranteed Payments

What Happens	How It Flows to K-1
Partner A owns 70%, Partner B owns 30%	Box 2 shows their percentages
Operating agreement gives Partner B $20,000 guaranteed payment	Partner B gets $20,000 in Box 4 (Guaranteed Payment)
LLC earns $100,000 ordinary income after deducting the guaranteed payment	Remaining $80,000 splits 70/30: A gets $56,000 (Box 1), B gets $24,000 (Box 1)
Partner B’s total income on K-1	$20,000 (guaranteed) + $24,000 (share of profit) = $44,000 total
Partner A’s total income on K-1	$56,000 (their share of profit)

Here you see that Partner B gets special treatment because they have a guaranteed payment. This payment comes out of the LLC first (it is a business deduction on Form 1065), and then the remaining profit is split by ownership percentage.

Scenario 3: Real Estate LLC with Capital Gains, Depreciation, and Passive Activity Rules

What Happens	How It Flows to K-1
LLC owns rental property worth $500,000 with $400,000 in depreciation taken	Depreciation shown in Box 13 as an adjustment
Property rented for $60,000 per year	Rental income in Box 3 (or Box 1 if not passive)
Property expenses are $20,000	Added to rental expenses (deducted from rental income)
LLC sells the property for $600,000 (original cost was $500,000)	Gain is $100,000; depreciation recapture of $400,000 (taxed as ordinary income)
Capital gain on property (after recapture)	Shown in Boxes 8 or 9 (capital gains)
Member’s MAGI is $120,000	Passive activity loss limitation rules apply (member may not deduct full rental loss)

This scenario is complex because rental real estate creates multiple types of income and deductions. The K-1 must separate these carefully so the member can report them correctly on their personal return. Depreciation recapture is taxed as ordinary income (not favorable), while capital gains may get preferential rates.

Line-by-Line: What Goes in Each Box of Schedule K-1?

Box 1: Ordinary Business Income (Loss)

This is your share of the net profit or net loss from the LLC’s main business activities, before special items. “Ordinary” means it is not a capital gain, not a charitable contribution, not an interest deduction—it is just the regular business profit.

Example: Your LLC is a consulting firm. It earned $200,000 in consulting fees and paid $120,000 in expenses (salaries, rent, supplies). The ordinary business income is $80,000. If you own 50%, your Box 1 is $40,000.

This number flows to your personal return on Schedule E (Form 1040), which is where you report partnership and S-corp income. The amount you report in Box 1 is subject to self-employment tax if you are an active partner (not a passive investor).

Important: Box 1 is not the same as the cash distributions you received. You might earn $40,000 in Box 1 but only take home $20,000 in cash. This is called “phantom income” and happens when the LLC keeps some profits to pay down debt or buy equipment.

Box 2: Net Rental Real Estate Income (Loss)

This is your share of the profit or loss from rental property activities. It is kept separate from Box 1 because rental income has special tax rules. Rental income is generally treated as passive income, which means it cannot offset ordinary (active) income.

Example: Your LLC owns an apartment building. Annual rent is $100,000, and expenses (mortgage interest, property tax, insurance, repairs, depreciation) total $60,000. Net rental income is $40,000. If you own 25%, your Box 2 is $10,000.

Depreciation of the building is shown separately (it reduces rental income to arrive at this Box 2 number, but the depreciation itself is listed in another box so you can track it).

Box 3: Other Net Rental Income (Loss)

This is rental income from property that does not fit in Box 2—for example, equipment rentals, vehicle rentals, or storage unit rentals. The treatment is similar to Box 2: it is generally passive income.

Box 4: Guaranteed Payments

This is money the LLC paid to you without regard to whether it made a profit. It is like a salary, but you are a partner, not an employee, so the LLC does not withhold income taxes or payroll taxes from it.

Example: The operating agreement says that if you are a general partner who works full-time, you get $50,000 per year guaranteed. Even if the LLC loses money that year, you still get the $50,000. This goes in Box 4a (guaranteed payments for services) or Box 4b (guaranteed payments for capital use).

Guaranteed payments are self-employment income if they are for services (Box 4a). This means you pay self-employment tax on them, just like a sole proprietor does.

Boxes 5–12: Investment Income and Other Separately Stated Items

These boxes are for income that gets special tax treatment and must be reported separately on your personal return.

Box	Item	Example
5	Interest income	The LLC received $500 in interest from a money market account
6a	Ordinary dividends	The LLC received $1,000 in dividends from stock it owns
6b	Qualified dividends	Dividends that get a lower tax rate
7	Royalties	The LLC received $2,000 in royalties from a book it published
8	Short-term capital gains (losses)	The LLC sold a vehicle it had owned for 6 months—gain of $3,000
9	Long-term capital gains (losses)	The LLC sold investment property held over 1 year—gain of $25,000

Each of these flows to a different line on your personal return (Schedule B for interest and dividends, Schedule D for capital gains, etc.). The LLC must identify these separately because each has different tax rates and rules.

Box 13: Deductions Limited to Each Member

This box contains deductions that might be limited based on your personal situation, so they cannot be calculated at the LLC level. These include charitable contributions, casualty losses, and certain other items. Your share is shown here, but you must apply the limitations on your personal return.

Example: The LLC made a $10,000 charitable donation. You own 50%. Box 13 shows $5,000 of charitable contributions. You then claim this on Schedule A (Form 1040), but you can only deduct it if your total deductions exceed the standard deduction.

Box 14: Self-Employment Net Earnings

This is critical for self-employed members. This box shows your share of self-employment income—the amount used to calculate self-employment tax (Social Security and Medicare tax).

If you are a general partner or an active partner, your Box 1 ordinary business income flows here. If you are a limited partner who is passive, your Box 14 is usually zero or only includes guaranteed payments for services.

Example: If Box 1 shows $40,000 and you are a general partner, Box 14 shows roughly $40,000 (adjusted for guaranteed payments). You then use this number to fill out Schedule SE (Self-Employment Tax) on your personal return.

Box 16: Distributions to Partners

This shows the cash or property the LLC actually distributed to you during the year. It is not the same as your taxable income. You might get $20,000 in distributions but owe tax on $40,000 in income (phantom income), or you might get $40,000 in distributions but only owe tax on $20,000 in income (if you also had losses).

Distributions are listed by type:

Code A: Cash and marketable securities given to you
Code C: Other property given to you

Box 17: Alternative Minimum Tax (AMT) and Box 18: Tax Credits

Box 17 is for items that affect whether you owe Alternative Minimum Tax, which is a separate tax calculation that applies to high-income earners. Box 18 shows tax credits you can claim, such as the low-income housing credit or energy tax credit.

These are advanced items that most small LLC owners do not need to worry about, but they must be reported if they apply.

Box 20: Section 199A Qualified Business Income (QBI)

This is a relatively new box that shows your share of qualified business income under Section 199A of the tax code. This is income that may qualify for a 20% deduction on your personal return, up to certain limits.

Most LLC ordinary business income qualifies for this deduction unless:

You are an employee (not an owner)
The LLC is in a specified service business (like consulting) and your income is above certain thresholds ($170,050 for single filers in 2024)

The LLC (not you) calculates this amount and reports it in Box 20 with code Z. If this number is missing, you may not be able to claim the full QBI deduction, even if you are entitled to it.

The Bigger Picture: Form 1065 Part II and Part III

Now let’s zoom out and see how Schedule K-1 fits into the whole Form 1065 return.

Form 1065 Part I is just identification: LLC name, EIN, address, number of members, and whether it is a publicly traded partnership.

Form 1065 Part II has information about each member:

Member name
Social Security number or EIN
Ownership percentage
Whether the member is a general partner, limited partner, or other type
Capital account at year-end

Form 1065 Part III shows the big totals for income and expenses:

Gross revenue
Cost of goods sold
Gross profit
Operating expenses (rent, salaries, utilities, etc.)
Total deductions
Net profit

All the numbers on all the K-1s must add up to match the Part III totals. If the LLC shows $200,000 net profit in Part III, and you issue K-1s to four members, the four K-1s must total $200,000 in ordinary business income (and losses). This is the “check figure” that tells you if you have made an error.

How to Actually Prepare the K-1: Step-by-Step Process

Step 1: Gather Your Documentation

Before you sit down to fill out a K-1, collect all the LLC’s financial records for the year:

Profit and loss statement (income statement)
Balance sheet
Member capital accounts and contributions/withdrawals
Depreciation schedule
Schedule of separately stated items (interest, dividends, capital gains, charitable contributions)
Guaranteed payment agreements or LLC operating agreement

You will also need the member information:

Member names and Social Security numbers
Ownership percentages as of the first and last day of the year
Whether each member is general or limited partner
Basis in their partnership interest (they should track this, but you should verify it)

Step 2: Calculate Total LLC Profit or Loss

Start by figuring out the LLC’s total profit or loss for the year. This is the bottom line on your profit and loss statement:

Gross income – All deductions = Net profit (or loss)

Make sure you have deducted guaranteed payments to partners, because those come out first before calculating the remaining profit to allocate.

Example: LLC gross revenue is $500,000. Expenses total $350,000, including $50,000 in guaranteed payments to Partner A. Net profit = $500,000 – $350,000 = $150,000.

Step 3: Identify Separately Stated Items

Before you allocate profit, pull out items that must be reported separately on the K-1:

Interest income
Dividend income
Long-term capital gains or losses
Short-term capital gains or losses
Charitable contributions
Depreciation

These come out of the profit/loss number and are reported separately, so each member can apply their own tax rules to them.

Example: Of the $150,000 profit calculated above:

$5,000 is long-term capital gain (from selling equipment)
$8,000 is charitable donations (reducing the profit)
$30,000 is depreciation deduction (reducing the profit)
Remaining ordinary business income is $150,000 – $5,000 – $8,000 – $30,000 = $107,000

Step 4: Allocate Profit and All Items to Members

Now split everything by member ownership percentage or per the operating agreement.

Scenario: Two members, 60% / 40%, with one guaranteed payment

Partner A: 60% ownership, $30,000 guaranteed payment
Partner B: 40% ownership, no guaranteed payment

Allocation of ordinary business income:

Partner A: $30,000 guaranteed payment + (60% × [$107,000 – $30,000]) = $30,000 + (60% × $77,000) = $30,000 + $46,200 = $76,200
Partner B: 40% × $77,000 = $30,800

Notice that Partner A’s guaranteed payment comes out first, and then the remaining profit is split 60/40.

Allocation of separately stated items:

Partner A: 60% × $5,000 capital gain = $3,000
Partner B: 40% × $5,000 capital gain = $2,000

(Same for all other separately stated items)

Step 5: Calculate Member Basis Adjustments

Partner basis is a technical number that affects how much loss they can deduct. At the end of the year, you must show on the K-1 what each member’s basis is.

Starting basis = What they invested + Their share of profit – Their share of losses – Distributions they received + Their share of liabilities

Example:

Partner A started with $50,000 basis
Plus their share of $107,000 ordinary income = $50,000 + $64,200 = $114,200
Minus their $40,000 cash distribution = $114,200 – $40,000 = $74,200 ending basis

This is reported on the K-1 in Part II, Item L (ending basis).

Step 6: Fill Out the K-1 Forms

Now you have all the numbers. Fill out a separate Schedule K-1 for each member with their specific allocation. Use the IRS 2024 Schedule K-1 instructions as your reference.

Step 7: Verify Totals Match Form 1065

Add up all the K-1s. Every line should total to the same number shown on Form 1065 Part III (or Schedule K).

Example:

Partner A Box 1 + Partner B Box 1 = $76,200 + $30,800 = $107,000 (should match Form 1065 ordinary income)
Partner A capital gain + Partner B capital gain = $3,000 + $2,000 = $5,000 (should match Schedule K capital gain)

If the totals do not match, you have an error. Go back and find it.

Step 8: Send K-1 Forms to Members and IRS

Send each member their K-1 by March 15 (or the extended date). Keep a copy for the LLC’s records. File copies with the IRS along with Form 1065. Also file Form 1096 (a cover sheet) with the K-1s.

Some states require separate state K-1s. Check with your state tax authority or accountant to see what is required where you do business.

Real-World Example: Rental Real Estate LLC

Maria and James start an LLC to buy rental properties. The operating agreement says each owns 50%. In Year 1, here is what happened:

Year 1 Activity:

Rent collected: $120,000
Mortgage interest paid: $40,000
Property tax: $8,000
Insurance: $5,000
Repairs and maintenance: $10,000
Depreciation (straight-line): $15,000
Guaranteed payment to Maria (she manages the properties): $24,000

Calculations:

Total income: $120,000
Total expenses (not including depreciation yet): $40,000 + $8,000 + $5,000 + $10,000 + $24,000 = $87,000
Income before depreciation: $120,000 – $87,000 = $33,000
After depreciation: $33,000 – $15,000 = $18,000

Allocation to Each Member:
Maria:

Guaranteed payment: $24,000
Share of remaining income: 50% × ($18,000 – $24,000) = 50% × (-$6,000) = -$3,000
Total ordinary business income on Box 1: $24,000 + (-$3,000) = $21,000
Depreciation deduction: 50% × $15,000 = $7,500

James:

Guaranteed payment: $0
Share of remaining income: 50% × (-$6,000) = -$3,000
Total ordinary business income on Box 1: -$3,000
Depreciation deduction: 50% × $15,000 = $7,500

Key points: Maria got the guaranteed payment first, so she shows $21,000 in Box 1. James shows a loss of -$3,000 because after paying Maria and the expenses, there was not enough profit left. Both get to deduct their share of depreciation separately.

The passive activity loss rules then apply: if either member’s income is below $100,000, they might be able to use the $25,000 special allowance for rental real estate losses. If income is above $150,000, neither can deduct the loss.

Real-World Example: E-Commerce LLC with Multiple Issues

Alex and Quinn start an online store LLC selling products. They each own 50%, but they have several complications:

The Issues:

They have active business income (product sales)
They also own the building the business operates from as part of the LLC
They sold old equipment during the year
They have investment income (the LLC has a money market account)

The Numbers:

Product sales revenue: $300,000
Cost of goods sold: $180,000
Operating expenses (salary for one employee, web hosting, shipping): $80,000
Gross profit from operations: $40,000

Rental Real Estate (the building they own):

Rent received from renting part of building to another business: $12,000
Depreciation on building: $8,000
Building expenses: $2,000
Net rental income: $12,000 – $2,000 – $8,000 = $2,000

Equipment Sale:

Sold equipment that had a basis of $10,000, accumulated depreciation of $6,000, for $6,000
Gain on sale: $6,000 – ($10,000 – $6,000) = $6,000 – $4,000 = $2,000
Depreciation recapture (ordinary income): $4,000 (the depreciation claimed)
Long-term capital gain: $2,000

Investment Income:

Interest on money market account: $300

Allocation (50/50):
Alex’s K-1:

Box 1 (ordinary business income): 50% × $40,000 = $20,000
Box 2 (net rental income): 50% × $2,000 = $1,000
Box 4a (depreciation recapture, reported as ordinary gain): 50% × $4,000 = $2,000 (added to ordinary income)
Box 5 (interest): 50% × $300 = $150
Box 9 (long-term capital gain): 50% × $2,000 = $1,000
Total income on Alex’s K-1: $20,000 + $1,000 + $2,000 + $150 + $1,000 = $24,150

The depreciation ($8,000 ÷ 2 = $4,000 per member) is built into these numbers.

Quinn gets identical amounts since ownership is 50/50.

Common Mistakes That Trigger Penalties

Mistake 1: Missing the Filing Deadline

The error: You file Form 1065 on April 1, missing the March 15 deadline. You also do not furnish K-1s to members until April 15.

The consequence: The IRS can impose a $255 penalty per partner per month late, up to 12 months. With 5 partners and 2 months late, that is 5 × $255 × 2 = $2,550 in penalties. You also get a separate penalty of $310 per K-1 for not furnishing them on time. With 5 members, that is another $1,550. Total penalties: $4,100.

How to avoid it: Set a deadline in your business calendar for February 1 to have all records ready. If you cannot make March 15, file Form 7004 for a six-month extension by March 15.

Mistake 2: Incorrect Box 14 Self-Employment Income

The error: You report all ordinary business income in Box 1, but you forget to put anything in Box 14 for a member who is a general partner. The member does not pay self-employment tax on their $50,000 share of income.

The consequence: The member underpays self-employment tax by about $7,065 (15.3% on the $50,000, less a small adjustment). When the IRS matches the K-1 to the member’s return, it flags the discrepancy. The member owes the back tax, plus interest and penalties.

How to avoid it: Box 14 (self-employment income) should usually match Box 1 for general partners, minus any passive income and minus certain deductions. For limited partners, Box 14 usually shows only guaranteed payments for services.

Mistake 3: Mismatched Basis

The error: A member’s ending basis on the K-1 shows $100,000, but the member’s own records (or an accountant) calculate their basis as $75,000. When that member later sells their partnership interest, they claim a much larger loss than they should.

The consequence: The IRS disallows the loss. The member owes additional tax plus penalties.

How to avoid it: Use the formula: Starting basis + income – losses – distributions + liabilities = Ending basis. Verify this matches what members expect.

Mistake 4: Missing Depreciation Recapture

The error: The LLC sold a rental property that was depreciated by $50,000. You do not report the $50,000 depreciation recapture as ordinary gain on the K-1. You just show a long-term capital gain.

The consequence: The member reports too low a gain on their personal return. They owe back taxes because depreciation recapture is taxed at ordinary rates (up to 25%), not capital gains rates (usually 15% or 20% for long-term gains).

How to avoid it: When a depreciated asset is sold, separate depreciation recapture (ordinary income) from any remaining capital gain on the K-1. Report recapture in Box 8 or Box 13, not just in Box 9.

Mistake 5: K-1 Totals Do Not Match Form 1065

The error: You allocate $100,000 ordinary income on the K-1s, but Form 1065 shows $95,000 net profit.

The consequence: The IRS receives both Form 1065 and the K-1s. When the numbers do not match, it flags both the LLC return and the member returns for audit.

How to avoid it: After filling out all K-1s, add up every line and verify it matches the corresponding line on Form 1065 Schedule K. Use a spreadsheet to do this automatically.

Mistake 6: Wrong Guaranteed Payments Treatment

The error: You report a guaranteed payment in Box 1 (ordinary income) instead of Box 4 (guaranteed payment). The member thinks it is profit allocation and does not realize they owe self-employment tax on it.

The consequence: Member underpays self-employment tax.

How to avoid it: Any amount paid to a partner without regard to the partnership’s profit should go in Box 4, not Box 1. Box 4a is for guaranteed payments for services; Box 4b is for payments for use of capital.

Mistakes to Avoid: A Checklist

✗ Do not mix up ordinary income (Box 1) and distributions (Box 16). They are not the same, and members can owe tax on income they never received in cash.

✗ Do not forget that passive activity loss limitations apply. A member cannot just deduct a $30,000 rental loss if they have no passive income to offset it and their income is over $150,000.

✗ Do not put investment income in Box 1. Interest, dividends, and capital gains go in separate boxes so they get the right tax treatment on the member’s return.

✗ Do not issue K-1s with different ownership percentages than what is in the operating agreement. If the agreement says 50/50, then every allocation must be 50/50 (unless there are special allocations, which must be explained).

✗ Do not forget about state K-1s. Many states require separate state Schedule K-1 forms, especially if the LLC does business in multiple states.

✗ Do not send K-1s late. Members need them to file their own taxes on time. If you miss the deadline, warn members immediately so they can file for extensions.

✗ Do not omit basis information. The ending basis in Item L is critical for members to track their investment and for calculating gain or loss if they sell their interest.

Do’s and Don’ts Summary

Do’s:

Do fill out Form 1065 and all K-1s with the same accounting method (cash or accrual). Pick one method and stick with it.

Do track depreciation carefully. Keep a depreciation schedule that shows what property is being depreciated, the cost, the year, and the annual deduction. This feeds into the K-1.

Do send K-1s to members by March 15 (or earlier if you can). Do not wait until the last minute.

Do create a partnership agreement or operating agreement before the LLC starts earning money. This document is your guide for all allocations.

Do verify that all K-1s total to the Form 1065 numbers before sending them out. A reconciliation spreadsheet saves time.

Do consider whether the LLC should elect S-corp status. If members are earning significant profit and paying high self-employment taxes, S-corp election can save thousands per year.

Don’ts:

Don’t assume all income is ordinary income. Separate out capital gains, rental income, investment income, and other special items.

Don’t forget about passive activity loss limitations, especially for rental properties. A member who does not “actively participate” may not deduct rental losses above certain amounts.

Don’t change allocation methods mid-year without documenting the change in writing. This can trigger IRS questions.

Don’t miss the Section 199A qualified business income calculation. Many LLC owners can deduct 20% of this income, but it must be reported in Box 20 code Z.

Don’t ignore state withholding requirements. If your LLC has non-resident members, you may need to withhold state taxes on their distributions.

Don’t file the K-1 with the member’s personal tax return. The K-1 goes to the IRS with Form 1065, and the member keeps a copy for their records.

Pros and Cons of Pass-Through Taxation (Which K-1s Enable)

Pro	Con
No double taxation—The LLC does not pay tax; members pay tax once on their personal returns.	Phantom income—You may owe tax on profit you did not receive in cash.
Tax flows through quickly—If the LLC makes money, members get tax deductions quickly without waiting for corporate distribution decisions.	Self-employment tax—Active members owe 15.3% self-employment tax on their share of profit. S-corp election can reduce this.
Flexibility in allocations—The operating agreement can allocate profit differently than ownership percentage (with limits).	Complexity—Pass-through returns are more complex than C-corp returns; they require tracking basis, passive activity limits, and separately stated items.
Member-level deductions—Each member can apply their own tax deductions and credits based on their situation.	Basis limitations—A member cannot deduct losses beyond their basis in the LLC, and disallowed losses carry forward indefinitely.
Pass-through of tax credits—Certain credits (rental housing credit, energy credit, etc.) flow through to members, allowing them to apply the credits.	State complications—Multiple states may require filings and withholding; tracking multi-state K-1s is complex.

Qualified Business Income (Section 199A) and How It Affects Your K-1

Starting in 2018, the Section 199A deduction allows many business owners to deduct 20% of their qualified business income (QBI). This is huge if it applies to you, because it can reduce your taxable income by up to 20%.

How it works: If your K-1 shows $100,000 in ordinary business income that qualifies for QBI, you can deduct up to $20,000 on your personal return (subject to income limits). This reduces your taxable income from $100,000 to $80,000.

What qualifies:

Ordinary business income from the LLC (generally)
Guaranteed payments for services (limited circumstances)
Capital gains from the business (limited circumstances)

What does NOT qualify:

Reasonable compensation you receive (it is already deducted from QBI)
Income from specified service trades or businesses if your income is above the threshold ($170,050 single / $340,100 married for 2024)
Investment income like interest and dividends

The catch: The Box 20 (QBI) amount must be calculated and reported by the LLC. If the LLC does not report it, the IRS may assume it is zero, and you lose the entire deduction. Ask your accountant to make sure Box 20 is completed correctly.

Income limitations: If you are single and earn over $170,050 (2024), or married and earn over $340,100, the QBI deduction phases out. At $220,050 single or $440,100 married, you cannot claim the QBI deduction unless you meet certain criteria based on W-2 wages and business property.

This rule expires after 2025, so take advantage while you can.

Basis, At-Risk Limits, and Passive Activity Rules: Advanced Topics

Three layers of rules limit how much loss a K-1 member can deduct:

Basis Limitation (Layer 1)

A member cannot deduct losses in excess of their adjusted basis in the LLC. Basis is roughly what they invested plus their share of profits minus their share of losses minus distributions.

Example: Member invested $10,000. They received $50,000 in distributions during the year. Their basis drops to zero or below zero, and they cannot deduct any loss beyond their basis. Any disallowed loss carries forward to next year.

At-Risk Limitation (Layer 2)

Form 6198 limits losses based on what the member has at risk. Generally, this is the cash they invested plus any non-recourse loans. Stop-loss agreements or guarantees on loans can reduce at-risk basis.

Example: Member invested $10,000 cash. The LLC took a $50,000 loan that is personally guaranteed by the LLC’s other owner, not the member. The member’s at-risk basis might be only $10,000 (the cash), not the $60,000 total. So even if the LLC losses, the member can only deduct up to $10,000.

Passive Activity Loss Limitation (Layer 3)

Form 8582 limits passive losses to passive income. Rental real estate is almost always passive unless the member qualifies as a real estate professional (750+ hours of work in the business, more than 50% of work time). Passive losses cannot offset W-2 wages or active business income.

Exception: If modified adjusted gross income is below $100,000 and the member actively participates in a rental real estate activity (they made management decisions, not just invested), they can deduct up to $25,000 of rental losses. This allowance phases out from $100,000 to $150,000 income, and disappears at $150,000+.

Example: Member has $80,000 W-2 wages and gets a K-1 showing $30,000 rental loss from an LLC they actively manage. Modified AGI is $80,000 (below $100,000). They can deduct the full $30,000 loss against their wages, resulting in taxable income of $50,000. But if their AGI were $120,000, they could only deduct $15,000 of the rental loss (due to the phaseout), and $15,000 would be suspended to future years.

These three layers are complex, and members often make mistakes applying them. That is why getting the K-1 to members early (with a note about their basis) is helpful.

Single-Member LLCs: Why They Do Not Use K-1

A single-member LLC (one owner) does not issue a K-1. Instead, it is treated as a “disregarded entity.” This means for tax purposes, the business and owner are one and the same. The owner simply reports business income on Schedule C attached to their Form 1040 personal return.

There is no K-1, no Form 1065 filing, no basis calculations—much simpler.

However: If the single-member LLC elects to be taxed as a corporation, it must then file Form 1120 (C-corp) and will not issue K-1s (C-corps do not issue K-1s; they pay tax at the entity level). If the single-member LLC elects to be taxed as an S-corp, it must file Form 1120-S and will issue K-1s, even though there is only one owner.

When a single-member LLC becomes a multi-member LLC (you add a new member), you must now file Form 1065 and issue K-1s starting the next tax year.

S-Corporation Election and How the K-1 Changes

If your multi-member LLC files Form 2553 to elect S-corporation tax status, several things change:

Form 1120-S replaces Form 1065. Both are pass-through, informational returns, but Form 1120-S is for S-corps.

Schedule K-1 (Form 1120-S) replaces Schedule K-1 (Form 1065). The layout is slightly different, with different box numbers and codes.

W-2 wages are required. In a partnership LLC, there are no W-2s (members are not employees). In an S-corp, members who work in the business must be treated as employees and paid a reasonable salary via W-2 (with payroll taxes withheld). This salary is a business deduction.

Distributions are “split wages + profit”. You cannot just take all profit as distributions (avoiding self-employment tax). You must pay yourself reasonable W-2 wages first, then take the remaining profit as dividends, which are not subject to self-employment tax.

Example: LLC earns $100,000. In partnership form, you (50% owner) owe self-employment tax on $50,000 = about $7,065 in self-employment tax, plus income tax. In S-corp form, you pay yourself $40,000 W-2 salary (payroll tax ~$6,120) and take $10,000 dividend (no self-employment tax). Total tax is lower: ~$6,120 vs $7,065.

When S-corp is worth it: If you have $60,000+ in profit and are an active owner, S-corp election typically saves money. If you have less profit or you are passive, partnership form is usually simpler.

The K-1 (Form 1120-S) will show your W-2 wages (on a separate statement), your share of profit in Box 1, and distributions in Box 16, just like a partnership K-1. But the deduction for self-employment tax only applies to the W-2 wages, not the Box 1 income (as long as the W-2 is reasonable).

State-Specific K-1 Requirements

Most states follow federal law and accept federal K-1s. However, some states have their own rules and may require separate state K-1s:

California requires partnerships to file state return if they have California source income or California resident partners. If you file state returns, you may need to create state K-1 forms allocating income to each state.

New York has similar requirements. If your LLC does business in New York, you may file a New York partnership return and issue state K-1s.

New Jersey requires state filings and state K-1s if the LLC has New Jersey source income.

Massachusetts requires filings if the LLC has Massachusetts income or Massachusetts resident partners.

Texas has no state income tax, so no state K-1 filings are required.

The key is checking whether your LLC has “nexus” (connection) to a state through business activities or member residency. If yes, you likely need to file a state return and possibly issue state K-1s. Some states’ K-1 forms are slightly different from the federal form (they may have different lines or codes for state-specific items).

How Depreciation Flows Through the K-1

Depreciation is a critical item on many K-1s, especially for rental properties and business equipment.

What depreciation is: A deduction for the wear and tear on business property. Instead of deducting the full cost of a property when bought, the cost is deducted a little each year over several years (the “recovery period”).

How it appears on the K-1: Depreciation reduces ordinary business income, so it flows through Box 1. However, the LLC also separately reports depreciation in Box 13 so members can track it and calculate basis correctly.

Example: Rental building costs $500,000. It is depreciated over 39 years = about $12,821 per year. The LLC’s income is reduced by $12,821 (this reduces the profit shown in Box 1). If you own 50%, your Box 1 is reduced by $6,410. Additionally, the K-1 shows depreciation of $6,410 in Box 13 so you can add it back when calculating your basis for the property.

Depreciation recapture: When a depreciated asset is sold, the depreciation that was claimed is “recaptured”—meaning it is treated as ordinary income (taxed at ordinary rates, not capital gains rates). This recaptured depreciation flows through the K-1 as ordinary income.

For example, if you depreciated equipment by $5,000 and later sold it at a gain, $5,000 of the gain is ordinary income (recapture). Any gain above $5,000 is capital gain (taxed at preferential rates). On the K-1, recapture appears in Box 8 or Box 13.

How to File Your Personal Return Using Your K-1

Once you receive your K-1, here is how to file your personal taxes:

On Schedule E (Form 1040), report:

Box 1 (ordinary business income) if it is not passive income
Box 2 (rental income) if the LLC owns rental property
Box 3 (other rental income)
Box 13 (separately stated deductions like depreciation)
Box 14 (self-employment income if you are an active partner)

On Schedule D (Form 1040), report:

Box 8 (short-term capital gains/losses)
Box 9 (long-term capital gains/losses)

On Schedule A (Form 1040), report:

Charitable contributions from Box 13

On Schedule SE (Form 1040), report:

Box 14 (self-employment income) to calculate self-employment tax

On Form 8582 (if passive loss limitations apply):

Box 1 or Box 2 losses that exceed passive income

On Form 8995 (or 8995-A) (if Section 199A QBI deduction applies):

Box 20 (qualified business income) to calculate your 20% deduction

Do not overthink it. Your accountant or tax software should guide you to the right forms. The K-1 itself is usually designed to flow directly to the right line on your return.

Reconciling Basis, Capital Accounts, and Outside vs. Inside Basis

This is an advanced topic, but it trips up many people.

Capital account (shown on the partnership’s books): The dollar value of what you have invested in the partnership, adjusted for profit and distributions.

Outside basis (what you track on your personal records): The basis of your partnership interest (how much you invested). This is used to calculate gain/loss if you sell the interest.

Inside basis (the partnership’s perspective): The basis of assets held by the partnership.

The K-1’s Item L shows your ending capital account, not your outside basis. Many members confuse these. Capital account and outside basis can differ, especially if one member bought their interest from another member at a different price.

Example: You invested $10,000 in the LLC (your outside basis = $10,000). The LLC’s capital account for you is also $10,000. The LLC made $20,000 profit. Your capital account goes to $30,000, and your outside basis also goes to $30,000 (increased by your share of profit). The LLC paid you $25,000 in distributions. Your capital account goes to $5,000, and your outside basis goes to $5,000 (reduced by distributions).

But now assume Person B bought your partnership interest from you for $40,000. Person B’s basis in the interest is $40,000 (the purchase price), but if the capital account is $5,000, Person B has a capital account of $5,000. The capital account and basis diverged because of the inside and outside basis differences.

This is why the K-1 shows both capital account (Box 19) and basis information (Box 15). You need to track your outside basis separately on a worksheet to know your tax basis if you later sell the interest.

FAQ: Frequently Asked Questions

Q: I received a K-1 from an LLC I am part of. Do I file it with my tax return?

A: No. Keep the K-1 for your records. The partnership files a copy with the IRS when it files Form 1065 (by March 15). You report the information from your K-1 on your personal Form 1040 and schedules, but you do not attach the K-1 itself. Only report the amounts on the appropriate lines of your return.

Q: I received two different K-1s from the same LLC—one federal and one for New York State. What do I do?

A: Yes. File both versions if both are provided. Report federal K-1 amounts on your federal return (Form 1040 and schedules). Report state K-1 amounts on your New York return (Form IT-203 or similar). If amounts differ, use the state K-1 for state taxes and federal K-1 for federal taxes. Reconcile any differences carefully.

Q: I earned $50,000 ordinary business income on my K-1 but only received $20,000 in cash. Do I owe tax on $50,000?

A: Yes. The IRS taxes income, not distributions. You owe tax on the $50,000 you earned, even though you only received $20,000 in cash. The remaining $30,000 stayed in the LLC (perhaps to pay down debt or buy equipment). This is “phantom income.” If you have an S-corp election, a reasonable W-2 salary can help mitigate this issue.

Q: Can I deduct a K-1 loss even if I did not receive it?

A: Not always. Losses are limited by three factors: (1) your basis in the LLC (you cannot deduct more than you invested), (2) your “at-risk” amount (loans you guarantee may not count), and (3) passive activity loss limits if the LLC activity is passive. File Form 6198 and Form 8582 to calculate your actual deductible loss. Any disallowed loss carries forward to future years.

Q: My K-1 shows a loss, but the LLC actually made money. Why?

A: Possible reasons include: (1) depreciation reduced your net income, (2) you had a guaranteed payment to another member that reduced profit to allocate, (3) the LLC had a net loss in the year and allocated it to members (some members may get income, some get losses), or (4) special allocations in the operating agreement gave losses to certain members and income to others. Ask the LLC’s accountant to explain the allocation.

Q: Do I report my K-1 income if I did not live in the state where the LLC does business?

A: Yes. You report K-1 income on your federal return regardless of where the LLC is located. If the LLC has income from a state where you do not live, you report that income on a non-resident return in that state as well. The state wants to tax income earned within its borders. Some states offer credits to avoid double taxation.

Q: If the LLC is late issuing my K-1, can I file my personal return without it?

A: Yes, but with caution. File for an extension (Form 4868) if you do not have your K-1 by April 15. You can estimate your K-1 income and file an amended return later once you have the actual K-1. However, penalties apply if you underpay by too much. The LLC should furnish K-1s on time; if they are late, notify your accountant immediately so you do not miss the extension deadline.

Q: My K-1 shows Section 199A income in Box 20. What does that mean?

A: It means the LLC has already calculated your share of qualified business income that may qualify for a 20% deduction on your personal return. Use this amount on Form 8995 or 8995-A (Section 199A calculation). If Box 20 is blank or says zero, the income may not qualify for the deduction, or the LLC did not fill it in correctly (contact the LLC’s accountant).

Q: I inherited my parent’s LLC interest. Do I need a new K-1?

A: Yes, eventually. Your basis is stepped up to the fair market value as of the date of death. The LLC should amend the capital account to reflect your inherited interest. On the next K-1 (for the tax year after the year of death), you will receive a K-1 in your name showing your new basis and your share of income going forward. The LLC may need to amend prior K-1s if your ownership percentage changed.

Q: Can I owe self-employment tax on K-1 income?

A: Yes, if you are an active partner. Box 14 shows your self-employment income. Active (general) partners must pay self-employment tax on their share of ordinary business income and guaranteed payments. Limited partners typically do not pay self-employment tax unless the K-1 shows guaranteed payments for services. Check Box 14 and, if applicable, complete Schedule SE (Form 1040) to calculate self-employment tax owed.

Q: What happens if my K-1 has an error?

A: Contact the LLC or its accountant. Ask for a corrected K-1 (called an “amended K-1”). Do not just file your return with wrong K-1 numbers; ask for the correction. If the LLC refuses or cannot provide it quickly, contact a CPA to help reconcile the discrepancy and file an amended return later if needed. Do not change the K-1 yourself; it must come from the LLC.

Q: I was a member for part of the year. Will I get a K-1?

A: Yes. You get a K-1 for the portion of the year you were a member. The LLC’s accountant will allocate your share of profit based on the time you owned the interest. If you joined mid-year, your K-1 will show a reduced share compared to members who were there all year (or it might show your share for only half the year, depending on how the LLC allocated).

Q: If I buy into an existing LLC partnership, what is my basis?

A: Your basis is the amount you paid to buy the interest. This is your “outside basis.” It might differ from the capital account the existing LLC shows for you. If you paid $50,000 to buy a 50% interest in an LLC with a capital account of $40,000, your basis is $50,000. This “upside down” basis will affect your gain or loss if you later sell the interest. Track this carefully; the K-1 will not show it correctly.

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