A limited liability company or LLC is the distinct structure of a private limited company practiced in the United States. The LLC structure is such that it protects the owners of the business from the debts and liabilities of the company. This hybrid structure of the LLC combines elements of a sole proprietorship or a partnership with other characteristics of a corporation.
LLCs are renowned for the flexibility that it offers businesses. Certain circumstances might prompt a limited liability company to elect to be treated as a partnership or choose to apply corporate tax rules. This is the implication of the hybrid structure the LLC possesses.
How Does an LLC Work?
LLCs are allowed under state statutes as a business structure. For this reason, the laws governing LLCs vary as you move from state to state. A group of persons owns an LLC, also called members.
In many states, any person can be a member of an LLC. However, insurance companies and banks cannot be members of an LLC. LLCs have a more formal partnership arrangement that mandates the company to send its articles of organization to the state.
Also, they are simpler to startup compared to a corporation, and they provide more protection and flexibility. An LLC may choose not to pay corporate taxes by listing profits and losses on the members’ tax returns. As a result, its members will have no protection from the company’s debts and liabilities. Also, an LLC member’s wages are considered as part of the company’s operating expenses. They are also removed from the company’s profits.
Who Should Form an LLC?
The laws guiding the establishment of LLCs differ from state to state, but they also share some similarities. Firstly, the owners decide the business’s name, and they file the article of association with the state.
In these articles, the liabilities, duties, obligations, powers, and rights of each member are specified. Business owners that want to reduce their liability to the barest minimum should consider forming an LLC. Even if you are currently operating as a partnership or a sole proprietorship, you can still form an LLC. LLCs are the most preferred legal entity used to own commercial and rental property.
Where Should You Open an LLC?
The best place to open an LLC is in your home state. This is because you’re probably more familiar with the laws and procedures of that state. Here are a few tips to keep in mind when considering where to open an LLC:
File your LLC registration documents in the state you reside or conduct your business in. This is practical since you shouldn’t register your LLC in a state where you have no business. You might have to register your LLC as a foreign LLC if you filed your business documents in another state.
If, however, you file your LLC documents in a state where you’re absent? Then you may need to hire a registered agent to represent your company.
How Do You Form an LLC?
It is relatively easy to form an LLC. Although the procedures vary in every state, here are general procedures for registering an LLC in the U.S:
- Pick the name of the LLC you want to form.
- Choose a registered agent.
- File your article of organization and other registration documents with the state.
- Create an operating agreement, especially when there are two owners or more.
- Get an employee identification number (EIN), especially if it’s a single-member LLC.
- You have formed your LLC at this stage and are ready to conduct business.
These steps do not apply in every state, so inquire about the registration process in any state that interests you.
How Much Does It Cost to Form an LLC?
Starting and managing an LLC costs money. However, the amount you spend depends on the state where you registered your LLC. It also depends on whether you do the registration yourself or you hire a lawyer to help.
The first fee you have to pay is filing your articles of organization (sometimes called certificate of organization). This document is filed with the state’s Secretary of State’s office, and the fee ranges from $50 to $100. However, this fee costs $250 in Alaska.
You may have to get licensed to do business depending on what city or county you operate in. These business licenses cost between $50 and $100. You’ll also have to keep paying ongoing fees once your LLC is up and running.
Failure to pay these fees may result in your LLC losing its legal right to do business in that state. There are also minimum annual LLC taxes which you must pay regardless of how much your company makes. Other expenses include yearly report fees, registered agent fees, and business license renewal fees.
How Are LLCs Taxed?
The current tax policy is to tax single-member LLCs as a sole proprietorship and multi-member LLCs as partnerships. However, by filing an election with the Inland Revenue Service (IRS), LLCs can be taxed as C or S corporations.
Types of LLCs
There are five main types of LLCs that we will discuss in detail below:
Single Member LLC
A single-member LLC is a business structure that gained prominence in the 1990s. As the name suggests, it’s an LLC with a single owner. The IRS taxes this type of LLC as a sole proprietorship since there is only one taxable income.
A multi-member LLC is a relatively lightweight business entity with a hybrid structure. It is a combination of a corporation’s limited liability and the flexible nature of a partnership. These LLCs never pay corporate taxes unless they choose to be taxed as a C or S corporation.
A domestic limited liability company is a business entity formed under state law. This entity absolves its owner(s) of liability for its debts. These types of LLC must also be categorized for federal income tax.
A foreign LLC is quite similar to the domestic LLC in terms of the registration procedure. These types of LLCs aren’t referring to companies from outside the United States. It refers to an LLC that conducts business in different states.
Advantages of an LLC
There are certain benefits that forming an LLC offers. Such as:
LLCs Offer More Flexibility
LLCs benefit from a flexible structure. You can change the business management model to suit the needs and ambitions of the LLC members. LLCs are member-managed, which means that owners are in charge of the LLC’s daily operations. The owners can also hire managers to oversee the company’s day-to-day operations. There are no limits to how many owners an LLC can have.
Limited Liability Protection
The LLC protects its owner(s) personal assets should the business incur any liabilities. If your LLC gets sued, your assets are protected even if the judgment goes against the company. If the business fails to pay for its liabilities, the owners wouldn’t be forced to pay from their wallets.
Most LLCs are pass-through taxation businesses because they are not liable to pay corporate income tax. Instead, the profit of the company goes through the owners and is taxed as individual income tax.
LLCs Are Easier to Manage
Limited liability companies are easier to manage and administer because it requires relatively less paperwork than most business structures. This helps the owner(s) of the LLC to avoid the hassle of documentation and administrative processes.
Disadvantages of an LLC
There are several disadvantages to forming an LLC, and we’ll be examining a few below:
The filing fees required to register an LLC are relatively high compared to a sole proprietorship or a partnership. Once the LLC is written, the business is liable to keep paying annual fees and taxes to the state.
The owner(s) of an LLC have to pay their income tax from their revenue share. This is a glaring disadvantage since an LLC wouldn’t have to pay this tax as a sole proprietorship.
You Cannot Cash Checks
It’s impossible to cash out a check made out to an LLC. This is because you must pay the check into the corporate account. Also, some banks charge incorporated businesses more fees.
Should You Create an LLC?
Since 1977 when Wyoming first enacted laws to create limited liability companies, the business model has grown increasingly popular because of its hybrid nature. It combines aspects of a corporation, sole proprietorships, and partnerships.
Finally, many businesses use the LLC model because of its flexibility. At the same time, it protects its owners against the company’s liabilities.