There are different types of business forms. The Limited Liability Company (LLC) is one of the most common types of legal structures for businesses. Here is what you need to know.
What is an LLC?
An LLC is an unincorporated business, meaning it is a private company owned by one or more people. The people in an LLC are called members, not shareholders or partners. Most states allow corporations or other LLC’s to be members as well.
This does mean that you cannot take your business public (sell shares to other people) if it is an LLC.
A lot of states require LLC’s to have a definite lifespan, as opposed to an unlimited one. The LLC’s lifespan can also end when an original member leaves the LLC; in this instance the company is said to have “dissolved.” But you can also write in specific rules to transfer a member's interest when they leave under the company’s operating agreement (explained below).
LLC’s usually have the benefits of both a corporation and a partnership.
The U.S. Small Business Administration states that, “LLCs can be a good choice for medium- or higher-risk businesses, owners with significant personal assets they want to be protected, and owners who want to pay a lower tax rate than they would with a corporation.”
No personal liability.
One of the main benefits of an LLC is that members can manage the company while having no personal liability in the company, hence the term “limited liability.” This means that if the company owes money or is sued, only the money or assets that members invest into the company are at risk.
For example, a creditor or someone suing the company cannot use a member’s house, car, savings account or any other personal property not invested into the company as a way to get money.
Personal liability can happen when the members “pierce the LLC veil.” Though the specific laws vary by state, usually companies “pierce the LLC veil” and therefore are personally responsible for the actions of the company when serious misconduct has occurred.
Such misconduct is usually found through a combination factors including, but not limited to:
- The company was undercapitalized
- The company funds were also used for personal expenses
- Using the company assets for personal purposes
- Using the company as a facade or “alter-ego” for its members other affairs—there is no separation from the business affairs and members personal affairs
- Other wrongful or fraudulent actions
- Company was ignoring business formalities
Again this only happens when serious misconduct has occurred and tends to be rare among LLC’s. If you are running a legitimate business, you should not have to worry about this situation. Overall, your personal assets are not reachable as payment for the actions of the LLC.
Corporations pay taxes on profits earned and then the shareholders pay a second tax when they get their share of profits. This “double taxation” does not occur in an LLC.
The LLC’s profits are only taxed once, thought the investors personal income tax. All the business profits, losses, and expenses “flow through” to the members individually.
Click here for more LLC taxing information.
Easy to organize and relatively low-cost.
The process for creating an LLC is fairly simple and low-cost. You need to figure out what state you want your company to be organized in. It may be a good idea to look at state laws regarding LLC’s to see which state is most appealing to you. All states have the option to create LLC’s.
You will need to file the Articles of Organization, usually with the Secretary of State. There is usually a filing fee ranging anywhere from $40 - $500, depending on the state. States also require LLC’s to biennial statements every 1-2 years. These statements are usually meant to keep the state informed and up to date on the business and also have a fee.
Click here for a list of filing fees related to LLC documents by state.
For the Articles of Organization you will usually need the name of your LLC and a registered agent, with a name and address.
Your business name usually must include the phrase “Limited Liability Company” or an abbreviation of the phrase such as LLC or L.L.C. Typically states require that the name is different from other business names in the state and don’t include a prohibited word or phrase.
The Department of State, or whoever your state requires you to file your Articles of Organization with, will usually have resources to help search for name availability and a list of prohibited words or phrases.
A registered agent is someone who accepts and sends legal documents on behalf of the LLC, including tax and other business documents. The registered agent can be a person, at least 18 years or older, or a business.
The person must live in the same state that the LLC is organized in and a business must have an office in the same state. P.O. boxes cannot be used as an address.
Your own LLC can also be the registered agent as long as the LLC has a physical address (excluding P.O. boxes) in the state the business is organized in. Any member of the LLC can act as the registered agent so long as they live in or have an office in the same state.
The registered agent is responsible for keeping the Articles of Organization and Operating Agreement.
You have flexibility in creating the rules.
An operating agreement is another important document to create when forming your LLC. These agreements outline the rules, regulations, financial, and functional decisions for the business. The agreement becomes an official, binding contract once signed by the members. Most states require them, but some do not.
If you do not have an operating agreement, then the state default LLC laws govern how your company is run. Typically these laws are very general, so it is a good idea to come up with more specific ones.
If members have specific rules or requests that differ from the state laws, it is important to write them in the operating agreement. This way if any of these rules are violated, you can try to enforce them in court if needed as the agreement is binding on all members.
If you have oral agreements, disputes and misunderstandings can arise easily. Verbal agreements are also harder to enforce than a binding document that clearly lays out terms.
LLC’s allow for greater freedom in how to distribute profits and losses between members. The members of the LLC do not have to split profits and losses equally—they can decide on any distribution they would like. This decision would go into the operating agreement.
Operating agreements allow members to set out terms for internal affairs such as:
- “Voting rights and responsibilities
- Percentage of members' ownership
- Powers and duties of members and managers
- Distribution of profits and losses
- Holding meetings
- Buyout and buy-sell rules (procedures for transferring interest to someone else or in the event of a death)”
Usually you do not have to, and you typically are not able to, file the operating agreements with the state. Just make sure that your registered agent has the agreement.
Lawyers aren’t necessary, but always a good idea.
You usually do not need a lawyer to form an LLC. But lawyers can save you a lot of time and energy.
Lawyers also are less likely to make mistakes on paperwork, which will prevent a lot of future headaches.
LawChamps is here to connect you with an experienced and trusted lawyer who can help you at an affordable rate. The company assists with the management of your case and lawyer relationship. Your lawyer will assess your legal issue in a timely and confidential manner, explain why you need or do not need a lawyer, and only charge you for the legal services performed and associated out of pocket fees. This article is intended to convey general information and does not constitute legal advice.
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