How are LLCs taxed in the United States (and why they’re not a “trick” to avoid taxes for foreign entrepreneurs)

The taxation of LLCs in the United States is one of the topics that causes the most confusion among European entrepreneurs—especially because people often try to “translate” an LLC into European entity types automatically. In reality, the U.S. system has a key distinction: the legal form is created under state law, while the main tax classification is federal (and, within certain limits, it can be elected).

In other words: an LLC in Texas is not identical to an LLC in New York from a corporate-law standpoint (rules, filings, protections), but for U.S. federal income tax purposes the basic logic is the same: what matters is how the entity is classified for tax.

1) Two layers: state law and federal tax

• Corporate law (state level): governs how the LLC is formed and operates (operating agreement, manager powers, member rights, state filings, etc.).

• Federal tax (IRS): determines how the LLC is treated for income tax under rules commonly referred to as “check-the-box”.

This separation is why in the U.S. you can have an “LLC” (legal form) that, for tax purposes, is treated as:

• a disregarded entity (if it has a single member),

• a partnership (if it has multiple members),

• a corporation / association (if you file a specific election).

2) Default rule: a “transparent” (pass-through) LLC

By default, an LLC is tax-transparent (pass-through):

• Single-member LLC: generally treated as a disregarded entity, meaning it is ignored as a separate entity for federal income tax purposes (income “flows through” to the owner).

• Multi-member LLC: generally treated as a partnership (still pass-through: tax is primarily borne by the members, not the entity itself).

This is where the partial parallel with domestic partnership concepts comes from: tax transparency. But “transparent” does not mean “untaxed”; it means “taxed at the owner/member level” under the rules that apply.

3) The “opaque” option: electing corporate treatment (C-Corp)

If the members do not want the default classification, they can ask the IRS to treat the LLC as a corporation through an election (in practice: “tax opacity” and corporate taxation). The IRS handles this through Form 8832 (Entity Classification Election).

In that case:

• the company pays tax as a C-Corporation (the commonly cited U.S. federal corporate rate is 21% of net taxable income),

• any distributions to shareholders may trigger additional taxation (the classic “double taxation” issue).

4) The myth: “I open a U.S. LLC and I pay no taxes in the U.S. or the EU”

Let’s be clear: that’s not how it works.

The idea that a “U.S. LLC makes taxes disappear” usually comes from a mix of:

• misunderstanding the difference between pass-through taxation and no taxation;

• confusion between tax residence and place of incorporation;

• aggressive marketing and cookie-cutter structures.

If you are tax resident in the European Union…

As a general rule, EU countries tax residents on worldwide income, subject to local rules, foreign tax credits, treaties, and so on. So forming a U.S. LLC does not automatically move taxation out of Europe.

“So I just avoid European tax?”

If you are not paying tax in your EU country of residence, you must be able to support (with facts and documentation) that:

• you are no longer tax resident in that EU jurisdiction, and/or

• the income is not taxable there for specific reasons, and/or

• treaty mechanisms / credits apply coherently.

And this is where “substance” matters: taxation follows economic reality, not the entity’s “license plate.”

5) Economic substance: where is the income actually created?

If you want to argue that income should not be taxed in the European Union, you must look at where these things really happen:

• management and decision-making,

• operational functions performed,

• people (employees/contractors),

• offices and assets,

• contracts and customers,

• risks assumed and day-to-day operations.

In simplified terms:

• If you build real economic substance in the U.S. (office, staff, real management, activities actually carried out on U.S. soil, etc.), then you are also accepting that the business may become tax-relevant in the U.S. (returns, potential taxes, compliance).

• If you do not have substance in the U.S., it is difficult to argue that the LLC’s mere “U.S. status” is enough to move the tax base out of Europe.

So the “LLC = no taxes” narrative collides with a simple reality: either the income is taxable where you live/operate in Europe, or it is taxable where you have genuine operational presence (often with interactions between the two systems—credits, treaties, and reporting obligations).

6) Practical examples (very common)

Example A — U.S. LLC, operations in Europe, no U.S. substance

• The owner lives and works from Europe.

• Customers and management are in Europe.

• The LLC is just a U.S.-registered “wrapper.”

Typical outcome: taxation does not vanish. Without other elements, the relevant European tax authority is likely to treat the income as taxable under local rules (then the technical details matter: income characterization, reporting obligations, foreign taxes paid and credits, etc.).

Example B — U.S. LLC with real U.S. operations

• Office and staff in the U.S.

• Contracts managed and performance delivered in the U.S.

• Real management and control in the U.S.

Here it is more coherent to claim a U.S. tax nexus, but that also brings U.S. compliance and potential U.S. taxation (federal and/or state), plus the need to coordinate with your EU jurisdiction (residence, treaty, credits).

If your U.S. LLC is treated as a pass-through (disregarded entity or partnership), the taxable income is generally reported at the owner/partner level, not at the entity level—so the owner often needs a U.S. taxpayer ID to interact with the U.S. tax system. For a non-U.S. individual who isn’t eligible for an SSN, that typically means obtaining an ITIN via Form W-7 when the person is required to file a U.S. federal tax return, is filing to claim a refund, or needs an ITIN to claim certain treaty benefits / reduced withholding.

In partnership scenarios with foreign partners, an ITIN is especially important in practice because partnerships may have withholding and reporting obligations, and the Internal Revenue Service notes that the partnership generally must provide a U.S. TIN (SSN or ITIN) for each foreign partner and should alert partners who lack one to obtain it.  

(That said, the IRS has also clarified that certain e-file schema changes for Schedule K-1/K-3 should not be read as creating a brand-new TIN requirement for partners who were not previously required to have one.)

7) Bottom line: an LLC is flexible, but it isn’t magic

Forming an LLC in the United States is not a magic trick to make taxable income disappear in Europe. It can be a very useful structure, but:

• you must understand tax classification (defaults vs elections),

• you must analyze economic substance,

• and you must coordinate tax residence, management location, and operations, along with any reporting requirements.

If you’re considering U.S. company formation and want to structure a U.S. LLC the right way—especially with foreign ownership—make sure you get the tax classification, filings, and cross-border reporting correct from day one. Andrea Ricci, CPA (Tradepass International Tax LLC) helps international founders and EU-based entrepreneurs choose the optimal LLC tax treatment (disregarded entity, partnership, or corporate election), assess U.S. nexus and withholding exposure, and coordinate U.S. compliance with your home-country rules. To discuss your case, contact Andrea Ricci, CPA at Tradepass International Tax LLC and request a consult on u.s. company formation and foreign-owned LLC tax compliance.