Question: Can I save S/E tax and create passive income by having my spouse own my entity?
Answer: Potentially, but it depends on a number of factors.
If you’re a sole proprietor or single member LLC, you’ve probably felt the sting of self-employment taxes (S/E tax).
If you and your spouse work together and you’re not incorporated, the IRS generally considers you a 50/50 partnership and both spouses’ earnings are subject to S/E tax. This is true even if your spouse minimally participates in the activity.
That’s right, even without a partnership agreement, if you and your spouse both share in the profits and losses of an unincorporated business, the IRS considers that you have a partnership owned equally.
The IRS calculates self-employment taxes by apportioning 50 percent of the earnings to each spouse. It’s possible to pay way more than you need to if your profits are more than the threshold for Social Security.
One way around this is to make your non-participating (or passively involved) spouse your business partner. But if you live in a community property state, be sure to follow these guidelines to secure your savings.