Law firm partners find the limits of “limited.”
In the beginning, there were general partnerships and limited partnerships.
But the lawyers came down and said, “Come, let us go down and confuse their language so they will not understand each other.” Thus LLCs, LLP, LLLPs, PLCs, PLLCs, and so forth were loosed upon the firmament.
But the IRS self-employment tax regulations, in their wisdom, ignored this, and continued to speak only of general partnerships and limited partnerships. And thus a Mississippi law firm ended up in Tax Court.
In the simple world of the old regulations, general partners in a service firm pay self employment tax on all of their K-1 income, and limited partners don’t. The Mississippi law firm practiced as a “PLLC,” short for “professional limited liability company.” Under the tax law, it was treated as a partnership. The “limited liability” thing makes it sound like a limited partnership. On the advice of their tax preparer, they treated their “guaranteed payments” — what non-partners call wages and bonuses — as self-employment income, and their residual income on their K-1s as income not subject to self-employment tax. According the Tax Court opinion, “the guaranteed payments were commensurate with local legal salaries as determined by a survey of legal salaries in the area.”