Forming an LLC or limited liability company basically gives you a combination of personal liability protection with the tax benefits that are seen more with a partnership.
Basics of an LLC
An LLC is a type of corporation, meaning it is an individual legal entity from its owners. So it is able to get its own tax ID number, do business and open a bank account in its own name.
The main benefit of an LLC is that the owners are not responsible for the actions of the company. This means that any debts of the LLC are not their personal responsibilities. So any money that the LLC owes is not the responsibilities of the owners to pay if the LLC does not have the funds to pay their debt.
When it comes to taxation, an LLC has two options: as a “pass-through” entity or as a normal corporation. The more common of the two is to be taxed as a pass-through entity, meaning the owners do not endure double taxation and the corporation is taxed as income to the business and income to the owners.
Advantages of Forming an LLC
- Less Official Procedures- These are not as many official procedures with an LLC as there can be with other types of corporations. While regular corporations are required to have regular meeting of the board and shareholders, as well as keep written corporate minutes and other paperwork, an LLC is exempt from these duties. An LLC does not have to have these meetings, thus making less paperwork and other duties.
- No Ownership Restrictions- There are no ownership restrictions with an LLC like the restriction with another type of corporation, an S corporation. With an S corporation each shareholder must be a resident or citizen of the United States.
- Cash Method of Accounting- LLCs unlike other corporations, such as close corporations, can use the cash method of accounting, meaning that money is not earned until it is received.
Disadvantages of Forming an LLC
- Income may pay more social security and medicare taxes- Sometimes owner-employees of an LLC pay more taxes than other corporation owner-employees. Earnings as well as salaries of an LLC have self-employment taxes that can be 15.3 percent. In other types of corporations, just salaries, not earnings get taxed this way.
- Instantaneous acknowledgement of earnings- The earnings are immediately added to an owner’s income while close corporations do not have to give this out right to their shareholders as dividend; thus meaning that in a close corporation the shareholders are not always taxed on the corporations earnings.
- Fewer fringe benefits With an LLC, member-employees who get fringe benefits, including group medical insurance must use these benefits as taxable earnings.
- Cost- Generally LLCs cost more to set up and run.
Forming an LLC could be a big decision with your business; as with starting any type of company you should consider the advantages and disadvantages of all types of corporations when deciding to incorporate. What you may think is right for your company may prove to be all wrong but if you do your research you are on the right track to making a good decision for your business.
By Lauren Culliton