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If you’re launching a business, you’ll have to decide whether it makes sense to protect yourself, your company and your assets by forming an LLC.
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LLC is a legal designation that offers both tax advantages and asset protection. It’s not the only way to organize a business and an LLC doesn’t make sense for every entrepreneur. Before you decide if forming an LLC is worth the time, effort and expense that goes into it, you should understand what you stand to gain and what you should expect along the way.
Keep reading to learn the ABCs of LLCs.
What Is an LLC?
A Limited Liability Company, or LLC, is a type of business entity recognized by most states and governments at all levels in the United States.
An LLC combines attributes of incorporation and partnership with taxation-friendly features like flow-through income, pass-through taxation, a single owner or multiple owners, etc.
Advantages an LLC Provides
An LLC is considered a “hybrid” entity because it acts as a corporation with limited personal liability but passes through income to the owners and isn’t required to pay corporate taxes like an S Corporation.
LLCs offer certain advantages over both partnerships and corporations. One of the biggest advantages is intangible: your company’s image.
“Most businesses incorporate to improve credibility,” said Elisa Bender, co-founder of RevenueGeeks. “It increases legitimacy, which is a key determinant for higher sales and traffic. So, you’ll see that adding ‘Inc.’ or ‘LLC’ helps with brand recognition. If businesses don’t incorporate, they may have less authority than brands with an LLC. Other parties may also use your trade name, which results in losing authenticity. That’s important for companies trying to maintain a unique identity.”
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Is an LLC Necessary To Start a Business?
You don’t need to start an LLC when establishing your business. However, if you want to differentiate between your assets and the company, an LLC is the right way to go.
You should start an LLC if you want to start a business and protect your personal assets. The word “limited” in limited liability company means that if the company gets sued, the owner’s personal property is protected from creditors.
“Business owners incorporate a business to create a level of separation between their personal assets and those of their business,” said Christopher E. Collins, a partner with the law firm Yugo Collins, PLLC. “It allows the business to expose itself to legal liabilities, such as lawsuits for breach of contract, debt collection, or torts, while protecting the business owner from those risks.”
An LLC Isn’t the Only Option
An LLC is not the only legal designation that can protect your business and your assets. You can also choose to incorporate, but that generally makes sense for bigger businesses guided by corporate bylaws.
“In some instances, a business owner might prefer to use a corporation instead of an LLC,” said Collins. “An S-corporation has almost all of the features of an LLC but requires more paperwork, recordkeeping, and corporate formalities. The business owner is taxed the same as with an LLC (pass-through taxation). A C-corporation is different. The money earned by a corporation is taxed twice — first when the corporation earns the money (corporate tax) and again when it distributes it.”
If you’re uncertain, you should weigh the pros and cons of an LLC before you choose it as your designated business model.
Pros
Here are some benefits of having an LLC:
- Limits liability for members and managers
- Easy transferability
- Decent privacy protection
- Flow-through taxation, which avoids double taxation
Cons
Here are some of the drawbacks:
- Some states don’t allow professionals like doctors or dentists to operate LLCs
- Many states don’t honor asset protection for single owner LLCs
- All income might be subject to payroll taxes
How To Start an LLC
If you have decided that you need an LLC, follow the steps given below to get started:
1. Choose a Name
First off, you need to choose a name for your business. Keep in mind that the name should accurately reflect your business.
You can register your business name in one of four ways:
- Entity name
- Domain name
- Doing Business As
- Trademark
Your company’s name should not be the same or similar to any other LLC in your state. Moreover, it should not have an offensive word or slur contained within it.
2. File Articles of Organization
File articles of organization with the corporate filing office of your state. In some states, it may be called the certificate of formation or certificate of organization.
You can get the form from the secretary of state’s website. You’ll have to fill out the form with some basic information like the owners’ names. The fees range from $40-$500 depending on your state.
3. Select a Registered Agent
To start an LLC, you must have a registered agent. A registered agent is someone who accepts your legal papers if the LLC is sued. Your company’s registered agent must have an address in the state that the LLC is registered in.
You can choose an LLC member to be the registered agent or pay a commercial registered agent.
4. Choose Member vs. Member Management
In most cases, LLCs choose their members to be the managers. However, LLCs may also appoint outsiders to manage the company. These managers make complicated decisions, such as altering business strategies or taking out loans.
5. Form an Operating Agreement
An Operating Agreement is a written contract that governs the relationship among partners or shareholders.
The provisions set up rules for decision-making and limits on those decisions to prevent overreaching. Moreover, an operating agreement determines who participates in management, how management is selected and whether managers are compensated.
As a result, you should prepare an operating agreement to specify the owners’ rights, responsibilities, and level of involvement in controlling the company.
Suppose you have an internal dispute with your fellow participants, or partners, on various issues which cannot be resolved amicably. In that case, this document will act as evidence against all parties involved during the litigation process.
Good To Know
Most states don’t require you to have an operating agreement, but some do. If there’s no operating agreement for your LLC, the company will operate according to state law.
6. Follow Regulatory and Tax Requirements
Here are some additional regulatory requirements for an LLC:
- Business License: You should check your local laws and state agencies to determine the kind of business license you need to conduct business activities lawfully.
- EIN: If there is more than one member in an LLC, you need to get an Employer Identification Number from the IRS. Doing so is mandatory even if you haven’t hired any employees yet. If you’re the sole member of an LLC, you only need EIN if you intend on having employees in the future, or you want the company to be taxed as a corporation rather than a sole proprietorship.
7. File Annual Reports
In most states, LLCs are required to file annual reports. The fees for these reports can run into the hundreds, depending on your state, but in most cases you’ll pay less than $100. Filing rules and regulations vary by state, as well.
How To Do Business in Another State
Sometimes, business owners have to register their LLCs in a state other than the one where it was formed.
For example, if your LLC is registered in Wyoming, but you want to conduct business in Miami, you might have to register the LLC in Florida and get a registered agent with a street address in that state.
As a “foreign LLC,” you have to file for a certificate of authority in the new state where you want to register your company.
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Andrew Lisa contributed to the reporting for this article.