Our new client, Joe Smith, is a one$-$third member of RST Management, LLC$.$ RST

is a Michigan limited liability company taxable as a partnership for federal income tax

purposes. RST provides management services to various venture capital funds that the

members of RST put together for investors. RST$$s services are provided by the three

members as well as a staff of approximately $5($all employees$)$ and consist of investment

management services, due diligence services, accounting services, tax services, IT

services, investor relations services and various administrative services. Virtually all of

RST$$s income is derived from its management services. All three members manage the

operations of the entity.

Mr$.$ Smith, along with the other members, receives compensation from RST$.$ The

compensation is $$reasonable$$ according to our client and is consistent with amounts that

they were paid by his prior employer that provided similar services. The compensation is

reported to the members on a W$-2$ and is deducted by RST in arriving at net ordinary

income. Net ordinary income is substantially greater than the $$reasonable$$ compensation

and is allocated one$-$third each to the members on Schedule K$-1$ of Form $1065.$ For the

specific year in question, $2024,$ Mr$.$ Smith received a W$-2$ reporting $$60,000$ of wages and

a distributive share of remaining profits of $$200,000$; he also received cash distributions

from RST of $$180,000.$

The $2024$ Schedule K$-1$ did not report any of the $$200,000$ as self$-$employment

income; the lines were left blank with a footnote that stated $$Please consult your tax

advisor$.$ According to Mr$.$ Smith, the tax return preparers for RST believe that the

distributive share is not subject to self$-$employment taxes as the members lack liability for

the entity$$s debts and receive income for their services provided RST via the W$-2$ subject

to all the requisite payroll taxes.

QUERY:

$1.$ Should Mr$.$ Smith$$s $$200,000$ distributive share of ordinary income from RST

constitute self$-$employment income subject to self$-$employment tax for $2024?$

$2.$ Would the answer be different if:

a$.$ Joe Smith was not a managing member of the LLC$?$b$.$ RST were a limited partnership for state law purposes and Mr$.$ Smith was

a limited partner?

c$.$ In the future, Mr$.$ Smith retires from providing services to the LLC but

continues to hold his LLC interest?