Can an LLC Member Collect Unemployment?

A member of a limited liability company may be able to collect unemployment for his past work in the company if the member received a regular wage, not always allowable under regulations of the Internal Revenue Service. Alternatively, an LLC member could be eligible to receive unemployment compensation from a prior employer, but eligibility would be dependent on the income he receives from the LLC and the amount of time he’s required to put into the company.

An LLC member is an owner of the company, and under default rules of the IRS, a member cannot receive a regular wage from the company. The IRS generally treats a multimember LLC as a partnership, and a single-member LLC as a sole proprietorship, with the company’s entire profit attributed to the members. Managing members, those who actively manage the company, pay a self-employment tax on their share of profit, whether it’s distributed or not. The self-employment tax covers Medicare and Social Security payments, but does not include federal unemployment tax, leaving the member unable to file a claim should he ever leave the company.

An LLC has the flexibility to elect to be taxed as a C or an S corporation without actually assuming the entire corporate structure. If it makes that election, the IRS requires managing members to be paid a “reasonable wage” that meets industry standards for the work the LLC does. Besides paying its share of Medicare and Social Security, the company also pays unemployment tax, making the member eligible for unemployment compensation should she leave the company or no longer manage it.

It’s not uncommon for a person to lose a job and start up his own company as an LLC. Whether he can still draw unemployment compensation is dependent on how much money he earns from the LLC and his time commitment to the company. As long as the LLC doesn’t turn a profit, from a financial standpoint, he can still receive his full amount of unemployment. Once he begins turning a profit, the level of profit will reduce the money received in unemployment.

State laws governing unemployment compensation also require a person to be available for part-time or full-time work, and may ask for evidence that the person is seeking regular employment. A freelancer or consultant may have scaleable hours that he can reduce if a regular job becomes available. He may have even begun his LLC while still fully employed, so his availability may not come into question. But if the LLC member starts an operation such as a store, requiring his full-time commitment, he would likely lose eligibility for unemployment compensation.

Since unemployment compensation is administered at the state level, rules can differ on allowed levels of income, job search requirements and other eligibility issues. If you start an LLC after becoming unemployed, a state may freeze your unemployment claim until an examiner reviews your particular circumstances. If unemployment compensation is a concern when planning for an LLC, check with the state where you live and the company operates for any regulations that may impact your concerns.