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LLC 101 – What You Need to Know About Limited Liability Companies

What does it mean to form a limited liability company (LLC)? How do you know if this formation is right for your business? Many entrepreneurs have plenty of questions about LLC formations. If you decide to form an LLC for your business, it’s important to understand what an LLC is and the reasons why this entity can benefit your business over another entity formation. We’ll address the following areas of an LLC in this basic primer.

  1. What is an LLC?
  2. Is there a difference between single member LLCs, member managed LLCs, and manager managed LLCs?
  3. What kinds of taxation benefits do entrepreneurs receive as an LLC?
  4. Should I know anything else about forming an LLC?

What is an LLC?

Limited liability company is often abbreviated as LLC. A limited liability company is, as paraphrased by the IRS, a business structure that legally separates the business from its owner.

What does this mean? Typically, the default entity formation for a small business is a sole proprietorship. This entity allows the business owner to act as the boss of the entire business. The owner is responsible for everything, good and bad, that impacts the company.

Many entrepreneurs may choose to incorporate as an entity formation, like an LLC, that provides limited liability protection. Limited liability helps create a separation between professional and personal assets. This ensures that your personal assets, like houses and cars, are not impacted by unforeseen circumstances.

LLCs and Corporations: Are These Entities the Same?

Does this mean that incorporating as an LLC is the same as forming a corporation?

This is a great question. While it is true that an LLC shares similarities to a corporation, including limited liability, they are still separate entities. Corporations are much more structured, requiring more recordkeeping and following stricter guidelines for business operations.

Meanwhile, an LLC has a bit more flexibility. The flexible nature of an LLC means entrepreneurs may form an LLC as one of three LLC structure types that best fit their needs.

The Three Types of LLC Structures

The owner of an LLC is called a member. Let’s explore three LLC structures that are available to its members.

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Single Member LLCs

A single member LLC is pretty easy to associate with its name. Only one member may run a single member LLC. If the LLC only has one member, then that member will run the company. The single member LLC is then treated as its own separate, legal entity formation.

Member Managed LLCs

A member managed LLC is ideal if the LLC has a few members that would all like to run the LLC together. Under this structure, every member runs the business as equals. This means each member shares the same amount of responsibility in the day-to-day operations of the LLC.

Manager Managed LLCs

Sometimes not every member in an LLC feels comfortable running the business — and that’s fine. This is where a manager managed LLC may be their best bet. In a manager managed LLC, a board of managers is appointed to oversee the direction of the LLC. It is true that the board of managers does have a bit more control than the LLC’s members. However, that slight trade-off ensures that the business is properly managed and in operations.

LLC Tax Benefits

One of the reasons why an LLC is quite popular with entrepreneurs is because of the entity’s taxation benefits. These benefits make it easier to calculate and pay taxes.

An LLC is treated as a partnership on the federal level. However, an LLC may elect to be taxed as another entity. LLCs have a pass-through entity status and are taxed as pass-through entities. This means that the profits of the business “pass-through” to the LLC’s members. These members report profits and losses on their individual tax returns. Losses and operating costs of the LLC may be deducted on personal tax returns, which helps to offset other income.

What happens if you decide to take money out of the business as income, such as drawing a salary from the LLC’s profits? This business income would be subject to self-employment tax. Incorporating as an LLC certainly helps makes tax obligations slightly easier, but electing to be taxed as another entity, like an S Corporation, further eases tax responsibilities.

Small businesses may avoid significant self-employment taxes if they elect an S Corporation. Much like an LLC, this entity also has flow-through taxation. The corporate income, profits, and losses pass-through to shareholders that elect S Corp status. Shareholders are taxed at individual income tax rates, helping to avoid double taxation.

Final Thoughts: LLC Operating Agreement

You’ve learned what an LLC is and how it differs from a corporation. You’ve also learned about the three different options of LLC structures and LLC taxation benefits. It’s almost time to form an LLC! However, before you decide to file, you must also consider drafting an operating agreement.

LLCs have fewer annual requirements and formalities than entities like corporations, for example. Drafting and maintaining an operating agreement is not a requirement. However, it is strongly advised that LLCs create a written operating agreement.

Inside an operating agreement will be the rules and regulations for keeping your business running smoothly. These include the rights and responsibilities of each member and the members’ ownership interest. Additionally, this document covers how to conduct business meetings, take votes, allocate revenues and losses, and provisions. Think of an operating agreement as the roadmap necessary for your LLC. With it, you will be able to successfully operate and ensure success.

Ready to form an LLC? Our team of professionals at MyCorporation are ready to assist you. Reach out to us at mycorporation.com to get started today.

Deborah Sweeney is the CEO of MyCorporation.com. MyCorporation is a leader in online legal filing services for entrepreneurs and businesses, providing start-up bundles that include corporation and LLC formation, registered agent, DBA, and trademark & copyright filing services. MyCorporation does all the work, making the business formation and maintenance quick and painless, so business owners can focus on what they do best. Follow her on Twitter @deborahsweeney and @mycorporation.

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