A limited liability corporation (LLC) is not going to be right for every business owner, but it can be a very useful, straightforward, and inexpensive way to organize your small business, even if you’re a small business of one.
What exactly is an LLC? The central purpose of a limited liability corporation is right there in the name: it offers the members of the LLC limited liability (like a corporation) but with an easily created and maintained structure.
An LLC limits the business owners’ personal liability. That means the personal assets of the owners are considered distinct from the finances of the company. So if the company owes money or someone sues for something as simple as slipping on the sidewalk in front of your store, no one can come after the owners’ assets. Liability is limited to the assets that are specific to the business.
If you start a company and invest $50,000 in that company, that’s all you can lose, even if the company ends up with debts of $75,000 or is sued for $1 million.
Benefits of a limited liability corporation
An LLC is only one of several ways to organize and own a business, but unlike a general partnership, an LLC insures the members (investors) against loss in a way that might encourage participation.
It also allows members greater flexibility when it comes to how they choose to be taxed. The Internal Revenue Service (IRS) offers a few hints and tips, but the main takeaway is that the IRS does not consider an LLC a separate, taxable entity (unless the members choose to make it so). Thus, any income an LLC member receives from that business is taxed as personal income.
This has advantages and disadvantages, obviously, since self-employment tax is more costly than corporate tax, but it does remove the need to file a separate tax return for the company itself.
In addition, since the passage of the Tax Cuts and Job Acts, LLC owners may be entitled to a pass-through deduction of up to 20 percent of their business income.
How to form a limited liability corporation
Forming a limited liability corporation is straightforward, particularly if everyone investing in the LLC is also going to be involved in running it. If this is not the case, things get a bit more complex because an investment from a non-involved member is considered a security. While it’s possible to get exemptions, particularly for small LLCs, securities laws are intricate, and the legal and financial ramifications get exponentially more complicated.
Typically, you form an LLC by filing “articles of organization,” but since the laws that regulate LLCs vary by state, if you’re interested in forming an LLC, it’s important to examine the code of your particular state.
The articles of organization (sometimes called a certificate of organization or a certificate of formation) are pretty straightforward, and most states have plug-in forms that are the work of a few minutes.
An optional operating agreement
Another worthwhile (though not legally required) document is an LLC operating agreement, which should clearly lay out the rights and responsibilities of each member of the LLC. This kind of clarity can be very helpful down the road — and it also means that you get to determine how to run your LLC. Without an operating agreement, your state’s LLC laws will apply, and those may or may not be to your liking.
The bottom line
Not all businesses are suited to LLCs, and not all states allow all types of business to incorporate in this manner. Financial enterprises such as banks, for example, are not usually allowed to be organized as LLCs. Some states exclude professionals such as doctors and lawyers from forming LLCs.
But if this type of organization suits your business, a limited liability corporation offers both great flexibility and significant protection.
