Limited liablity companies are more likely to be subject to a state's franchise taxes. This franchise tax is the fee the LLC pays the state for the benefit of limited liability. A LLC is not a separate tax entity, instead, it is what the IRS calls a "pass-through entity," that is, there are no provisions for double taxation like a sole proprietorship or partnership. All the profits and losses of the LLC pass through the company to the LLC owners, who report this information on their personal tax returns. The LLC itself does not pay federal income taxes, but some states may charge the LLC itself an annual state tax.

The IRS treats single owned LLCs, as sole proprietorships for tax purposes. This means, the LLC itself does not have to pay taxes and file a return with the IRS. As the sole owner of the LLC, the owner must report all profits or losses of the LLC in Schedule C and submit it with his 1040 tax return. Even if profits are left in the company's bank account at the end of the year, for instance, to cover future expenses, taxes have to be paid on that money.

The IRS treats multi-owned LLCs as partnerships for tax purposes. In such cases, LLC does not usually pay any income taxes itself. Instead, the LLC owners pay taxes on their allocated share of profits with Schedule E attached on their personal tax returns. All LLC members must pay taxes on their distributive share, whether or not the LLC actually distributes the money to them.

LLC owners are considered self-employed business owners and so they are not subject to tax withholding. Many LLC owners are required to pay self-employment tax directly to the IRS. The members must estimate the amount of tax they will owe to IRS for the year and make quarterly payments in April, June, September, and January. A few states charge the LLC, a tax based on the amount of income of the LLC, in addition to the income tax its owners pay.