Why You Should Form an LLC

Why You Should Form an LLC

by Edward A. Haman, Esq., October 2017

Although a Limited Liability Company, or LLC, isn't for every business owner, there may be good reasons why you should form an LLC. The following information will help you determine if an LLC is right for your business.

What Is an LLC?

A Limited Liability Company (LLC) is a type of business organization allowed by state law. The LLC was mainly created to limit personal liability of the owners (like a corporation), but also to allow the business to be taxed like a partnership. Those who own the business are called members (comparable to shareholders in a corporation).

The members select managers, who run the day-to-day operation of the business (comparable to corporate directors and officers). Of course, in a small LLC, the members and managers may be the same person or people.

Do I Need an LLC to Start a Business?

It is not necessary to form an LLC in order to start a business. An LLC is only one of several ways of organizing a business. Other possibilities include:

  • Sole Proprietorship. This is where a single person is the owner of the business. The owner does not have any protection from personal liability for business debts.
  • General Partnership. This is the simplest arrangement where two or more people own a business. The partners do not have any protection from personal liability for business debts, or for actions of the other partners taken within the scope of the business.
  • Limited Partnership. A limited partnership has two types of owners: general partners (who operate the business, make the decisions, and have personal liability), and limited partners (who are basically investors who do not have the right to operate the business or make business decisions, and do not have personal liability for business debts).
  • Corporation. In many ways similar to an LLC, a corporation is owned by the investors (called shareholders or stockholders), who provide the funds, assets, or services used to operate the business. The shareholders elect a board of directors, who are primarily responsible for major business decisions. The board of directors also selects officers, who are responsible for the day-to-day operation of the business. In a small corporation, the shareholders may also be the directors and officers.

Depending upon the state where your business operates, and the type of business you have, you might also be able to organize as a Limited Liability Partnership (LLP) or a Limited Liability Limited Partnership (LLLP), which afford some limited liability to the general partners; or a Professional Association (PA), which is only available to those engaged in certain types of professions.

Why Would You Need an LLC?

Whether you are about to start a business, or have been operating as a sole proprietor or a partnership, you probably want to know: How do I know if I need an LLC?

When choosing the form of your business, numerous considerations come into play, including personal liability, ownership and management, cost of forming and registering the business, and taxation. Reasons you might want an LLC include:

  • Limiting your personal liability for business debts. With an LLC, only the assets owned in the name of the LLC are subject to the claims of business creditors, including lawsuits against the business. The personal assets of the LLC members cannot be claimed to satisfy business debts. For most people, this is the most important reason to form an LLC.
  • Raising capital from investors. This can be done by bringing in other members who contribute funds, property, or services to the business.
  • Tax advantages. There is usually no separate tax levied on the LLC itself, as there may be with a corporation. LLC profits or losses are generally passed on to the members, as they would be with a partnership.

You should also compare your state's fees associated with both LLCs and corporations, to see if one or the other is less expensive to form and maintain. Also, you should consider what your state requires in the way of holding meetings of the members, and annual reporting.

Forming an LLC

The details of forming an LLC vary from state to state. Generally, you would create an LLC operating agreement setting forth the rights and duties of the members and managers (similar to articles of incorporation), file certain forms with the appropriate state agency (often the Secretary of State), and pay a filing fee.