An LLC, or limited liability company, provides business operators the protections usually only afforded to corporations and the simplicity often only available to sole proprietorships. LLCs offer legal protection of personal assets and pass-through taxation through a separate entity that isn’t limited to a specific number of shareholders or heavy regulation.
What Is an LLC?
A limited liability company, or LLC, is a U.S. legal entity used to own, operate and protect a business. LLCs provide the same legal and financial protections corporations do but remain more affordable and require less work to form and run.
What Are the Benefits of an LLC?
Other common forms of businesses, including corporations, general partnerships and sole proprietorships, offer various benefits, but the LLC entity combines many of the advantages of each structure.
Asset Protection
The main advantage to an LLC is in the name: limited liability protection. Owners’ personal assets can be protected from lawsuits when an owner uses an LLC to do business.
Benefits also include the ability to list any number of owners through the formation of a multi-member LLC. Businesses can also own LLCs.
Taxation Options
LLCs also protect owners from being taxed twice (as they might be with a corporation) and provide flexibility as to how taxation functions; an LLC offers pass-through taxation, meaning owners can report profits and losses on personal tax returns.
If the entity wishes not to be taxed as a sole-proprietorship or partnership as it would be with a pass-through taxation scheme, the LLC can also elect to be taxed as an S-corp or C-corp, in which case it’s common for business owners to become employees of the LLC. With these tax schemas, C-corp tax status election means an often lower corporate tax rate, and S-corp tax status means pass-through taxation that won’t be subject to Social Security or Medicare taxes.
Versatility
LLCs are not required to have annual meetings, nor are they bound by the administrative requirements often seen with corporations; LLCs don’t need to have shareholder meetings or maintain a board of directors. Instead, an LLC’s members may organize how they like: Members or nonmembers may manage the business’s operations as they see fit.
Legal Name and Credibility
Regulations usually prohibit operation as a business under a name that isn’t registered with the state, but LLCs allow a business to operate with the name or names under which the business is registered. The LLC moniker at the end of a company’s name can also lend credibility to a small business.
Profit Sharing Flexibility
One advantage a multi-member LLC has on most of its business entity counterparts is the ability for members to decide how to share profits. Corporations often issue dividends on stock and partnerships normally split profits among partners, but an LLC can elect how its profits are shared, not shared or otherwise distributed. Beware, however, that IRS rules about special allocation of profits may require profit usage to reflect legitimate economic need or circumstance—and not be some attempt to avoid paying taxes.
What Are the Disadvantages of an LLC?
The first major disadvantage to an LLC, especially for smaller businesses, is cost.
LLCs are formed and registered at the state level, so the process—and the associated fees—can vary slightly from place to place. Fees and taxes associated with LLCs can vary between $10 and $800 or more and often must be paid annually. Filings and other registration paperwork must also often be filed annually for the LLC to remain in good standing with the state in which it is formed.
While LLCs have “members” who can own the business, the structure does not issue stock in the same way a corporation does. While investment in an LLC by multiple parties is certainly possible, many businesses find a corporation’s structure more friendly to outside investment because of the ability to do things like easily issue stock. LLCs offer serious flexibility when it comes to how a business can organize, manage and run its affairs, but those businesses with major outside investment requirements may find another structure more conducive to those forms of funding.
Should I Form an LLC?
Forming an LLC offers major benefits for most small to medium business owners. Registering and operating as an LLC will provide business owners legal protection for personal assets, credibility and a long list of other advantages usually only found spread throughout a number of other business structures.
Frequently Asked Questions About LLCs
LLC registration and filing costs vary by state, as do taxes levied on LLCs. Hiring a lawyer to form an LLC can often be pricey, but may be necessary for those businesses with more complicated structures or many members. Generally, expect to spend somewhere between $100 to $200, but be ready to spend as much as $1,000.
No. Filing and registering an LLC with any given state does not require an attorney. For more complicated business structures and those who want to ensure no mistakes are made, hiring a lawyer may be advisable. Generally, however, forming an LLC does not specifically require hiring a lawyer.
An LLC offers some benefits of a corporation and vise versa, but an LLC and a corporation are different business entities and are not the same thing.
LLCs may provide tax benefits based on how a business elects to be taxed, but an LLC does not shield anyone from having to pay taxes on business profits. Some states may levy additional taxes on LLCs and many charge registration and filing fees each year.
An LLC is not a commercial liability insurance policy and does not offer the same benefits. Liability insurance for a business is also advisable in addition to the legal protections personal assets may receive from an LLC business structure. Liability insurance can also protect the LLC’s assets and interests from claims and lawsuits, as well as provide additional protection to personal assets in some cases.
