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Focus on Law Firms: Tax Implications for New Partners

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The end of the calendar year usually coincides with law firms announcing partner promotions. When law firms are structured as partnerships, newly promoted partners can expect their tax situation to change for the 2017 filing year. For tax purposes, the partnerships report the firm income and the income “flows through” to the individual partners of the firm.
January 20, 2017

The end of the calendar year usually coincides with law firms announcing partner promotions. When law firms are structured as partnerships, newly promoted partners can expect their tax situation to change for the 2017 filing year. For tax purposes, the partnerships report the firm income and the income “flows through” to the individual partners of the firm.

It is important to note that, as a partner, you are no longer considered an employee of the firm and will receive a Form K-1 instead of a W-2 from the firm. The Form K-1 reports your allocation of the firm income for the year including any guaranteed payments that you receive. One major difference is that taxes will no longer be withheld and remitted to the IRS for these earnings. That responsibility now falls to you personally.

As an employee, federal and state income taxes were not the only items previously withheld from your compensation. Social Security and Medicare (commonly known as FICA taxes) were also withheld from your compensation and matched by your employer. As a partner, you’re now considered to be self-employed which means your earnings, both guaranteed payments and firm income, are subject to self-employment tax. This tax replaces the FICA taxes previously withheld from your payroll and matched by your employer. Self-employment tax will be added to your estimated federal income tax to determine your quarterly federal tax estimate requirements.

If you were promoted to partner effective in 2017, in addition to your year-end income reporting forms being different, you may need to consider making quarterly estimated payments since you will not have taxes withheld going forward.

If your Federal 2017 tax liability is expected to be $1,000 or more, you should be making quarterly estimate payments. These amounts are due April 18, 2017, June 15, 2017, September 15, 2017 and January 16, 2018.  Your total quarterly estimates plus any withholding should equal at least 90% of your tax for the current year (including the self-employment tax) or 100% of your tax from the prior year (110% if your prior year adjusted gross income was over $150,000).  

In order to figure out the amount due each quarter, you’ll need to calculate your projected taxable income, deductions and credits to determine your projected tax liability. Internal Revenue Service (IRS) Form 1040-ES and the form’s related instructions can help with this determination.

Form 1040-ES is also the voucher form used to remit your taxes if you’re paying by check. Taxes can also be paid electronically by enrolling in EFTPS (Electronic Federal Tax Payment System). If you plan to pay electronically, you’ll need to enroll several weeks prior to the payment due date to allow time for the IRS to mail you a personal identification number to activate and access your account.

Should you have questions or need assistance with these calculations, please contact your RubinBrown advisor.

 

Any federal tax advice contained in this communication (including any attachments): (i) is intended for your use only; (ii) is based on the accuracy and completeness of the facts you have provided us; and (iii) may not be relied upon to avoid penalties.

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