The Profit Motive Matters: Why Your LLC Needs a Legitimate Purpose
A client recently asked me how to set up an LLC to reduce taxable income. Their question came from something they’d seen in another country—renting out high-value assets while claiming the related expenses to minimize taxes.
My obvious response: If your main goal is to cut your tax bill, it’s hard to do that legally in the U.S. through an LLC.
What Works Abroad May Not Work Here
Business activities can vary significantly from one country to another, especially when comparing countries where the rule of law shapes and supports the economy. Unlike the U.S., not all nations operate under a capitalist system. That means their laws may allow certain actions and reporting methods that wouldn’t be permitted here.
My concern is this: just because something is allowed or reported a certain way abroad doesn’t mean it can be replicated in the U.S. without running into legal issues. Mimicking a strategy used in another country doesn’t guarantee it will meet the requirements of U.S. law.
Let me explain why that matters.
Yes, You Can Set Up the LLC—But There’s a Catch
Structuring an LLC to rent out assets is absolutely feasible. The issue arises when the primary goal is to reduce taxable income, because that typically means the activity needs to show a loss to achieve that. That’s the core problem here in this scenario.
Occasional Use Isn’t Enough
The client noted that they would rarely rent out the assets—that alone disqualifies the activity from meeting the “active trade or business” rules, which depend heavily on time and effort invested in the rental activity. Yes, it’s true you can deduct expenses against rental income or inflate pricing to report some income. The real issue is trying to claim losses from this activity in any given year.
IRS rules determine whether an activity qualifies as an “active trade or business,” and that hinges on intent and effort. A legitimate business can have a loss, even with your best efforts. But if you report a loss year after year only to reduce taxable income, the IRS may determine you lack a genuine profit motive. Profit motive is essential when setting up an LLC to conduct a legitimate business.
Questions? Contact Leone, McDonnell & Roberts to connect with a trusted advisor.
