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What is the difference between a profits interest and a capital interest?

The main difference between profits interests and capital interests is how the assets of the LLC are treated and the rights of the holder of such interest to assets of the LLC.

Is a capital interest taxable?

A service provider who receives a vested capital interest must recognize taxable compensation income at the time the interest is granted. The amount of compensation income is equal to the fair market value of the partnership interest granted. The partnership receives a corresponding tax deduction.

How do profit interests work?

The value of a profits interest accrues from the companys future success, so it has no value when issued. Instead, its monetary value is generated only after its granted, when profits and upside equity value are allocated.

How are profits interests valued?

In general, if a profits interest member will receive a share of future income, value will be based on the present value of the projected income that the member expects to receive from the units.

Does a profits interest have a capital account?

As a person receiving a profits-only interest has a $0 initial capital account, the liquidation value of the mem- bership interest would be zero.

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