LLC Basics: Appealing Characteristics of LLCs
Over the last 20+ years, LLCs have become one of the most popular types of business entity. Entrepreneurs find LLCs appealing because they offer limited liability, pass-through taxation, flexibility in management and operations, and have relatively simple statutory requirements. We’ve highlighted the “LLC basics” in today’s post.
Limited Liability Protection
Like corporations and other limited liability entities, limited liability companies offer owners (also referred to as “members”) protection against personal liability. If the owner of a sole proprietorship or general partnership gets sued, then their personal assets are at risk. But if the owner of an LLC gets sued, the business assets would be at risk, but their personal assets will generally not be subject to the lawsuit.
The federal government does not recognize a LLC as a its own classification for federal tax purposes. A LLC business entity can file as any of the following tax classifications: C corporation; S corporation; partnership; or sole proprietorship.
As we’ve discussed before, corporate earnings are generally taxed twice when distributed to corporate owners (or shareholders)–that is, the money is taxed as income for the corporation, and it is taxed again when that money is passed through the corporation to the shareholders (generally as dividends).
On the other hand, partnerships and sole proprietorships are taxed as pass-through entities. Under the pass-through structure, the partnership income is only taxed once, and it recognized as individual income by the owners. The entity itself does not pay any entity-level taxes under the pass-through structure, since in come is “passed through” to the owners. By default, a LLC with more than one owner will be taxed as a “partnership” and a LLC with a single owner is taxes as a sole proprietorship. Depending on the circumstances surrounding the business and its owners, pass-through taxation can be beneficial for some companies. We always advise talking with a tax professional when sorting out what tax structure makes the most sense for your business.
Flexibility in Managing the LLC
LLCs are not only flexible in their tax structure, they are also flexible in their management structure. Corporations are required to have a board of directors that oversees the higher-level company operations. LLCs, on the other hand, can be managed directly by the members (“member managed”) or by a manager (or multiple managers) that is appointed by the members (“manager managed”). The statutes allow LLCs great flexibility in allocating management power. LLCs can determine who, when, how, and under what circumstances decisions can be made. These terms (along with several other key provisions governing how the LLC is managed and operated) should be spelled out in the company’s operating agreement.
Simple Formation and Administrative Requirements
Another appealing feature of LLCs is how easy they are to form. Most states have simple electronic filing requirements in order to form and register the LLC with the state. The administrative requirements for maintaining the entity registration with the state are quite simple as well. In Washington, a simple annual report and filing fee is due each year in order to maintain the LLCs active status with the state.
The characteristics we’ve highlighted above offer you a glimpse of the LLC basics and why the LLC has become such a popular choice of entity. Of course, each venture is unique and we always advise considering the details for your company to decide what entity makes the most sense for your business.
If you’d like to learn more about LLCs and other limited liability entities, please contact us today.