pass-through taxation
A tax structure where business income is reported on the owners' personal tax returns rather than taxed at the entity level, avoiding double taxation.
Example
“LLC income passes through to owners' personal returns — avoiding the double taxation that C-corporations face.”
Memory Tip
PASS-THROUGH = business income PASSES THROUGH directly to your personal tax return. No entity-level tax.
Why It Matters
Pass-through taxation directly affects how much you owe in taxes as a business owner or investor. Understanding this structure helps you plan your tax strategy and avoid paying taxes twice on the same income, which can significantly impact your net earnings and overall financial planning.
Common Misconception
Many people assume that pass-through entities like LLCs and S-corporations do not pay any taxes at all. In reality, the owners must still pay income taxes on their share of the profits through their personal tax returns, even though the business entity itself does not pay corporate taxes.
In Practice
Consider Sarah who owns an LLC that earns 100,000 dollars in profit. Rather than the LLC paying corporate taxes on this amount, Sarah reports her 100,000 dollar share on her personal tax return and pays income tax at her individual rate. If she were a C-corporation instead, the company would first pay corporate tax, then Sarah would pay taxes again on any dividends, resulting in double taxation.
Etymology
PASS-THROUGH (income flows through to owners) TAXATION. Income PASSES THROUGH the entity to be TAXED at the owner level.
Common Misspellings
File your taxes free with TurboTax
Related Terms
More in taxes
Other taxes terms you should know
See Also
Need financial definitions?
Clear definitions for 2,500+ finance, insurance, and investing terms.