What Is a Limited Liability Company?
More commonly known by the acronym LLC, a limited liability company seemingly comes with a lot of benefits. Establishing this kind of business structure can work for anything from a sole proprietorship to a large business with numerous employees.
Moreover, designating a business as an LLC can legitimize it in the eyes of some customers, and make acquiring assets a little easier, legally speaking. But having an LLC also comes with additional responsibilities. So, what type of businesses fit well into the LLC framework? We’re taking a look at everything you need to know about limited liability companies here.
What Is a Limited Liability Company (LLC)?
A legal designation for a business that has one or many members, LLCs are often composed of people, but other businesses can also be members of an LLC. Additionally, both people and businesses that live outside of the United States can be members of an LLC.
To start, each LLC files Articles of Organization. The Articles identify the name of the business as well as the purpose the business will serve. Although businesses may have multiple branches or operate in many places, the articles also identify the main office or central address for said business. Moreover, the Articles also name the managers of the LLC as well as its registered agent. Whenever the LLC receives correspondence from the state it is registered in — or correspondence regarding legal matters — said letters will be mailed to the registered agent.
How LLCs Work
LLCs are governed by operating agreements, which determine who owns the business and how much of the business each party owns. Much like a deed to a property, the Operating Agreement also lays the ground rules for what happens if a member of the LLC dies or wishes to leave the LLC. Together, the Articles of Organization and the Operating Agreement indicate the core purpose of the business and the basic principles of how it will operate.
In day-to-day operations, there’s little difference between an LLC and any other type of business structure. The business hires employees, makes purchases, and serves the public just as any other business would, but profits are distributed according to the Operating Agreement. An LLC may file federal taxes, or individual members of the LLC may choose to file the income and expenses of the LLC on their personal taxes.
How to Form an LLC
Each state has its own set of rules for establishing an LLC, but there are similarities across many states. Applications for new LLCs are filed with the office of the Secretary of State. Submitting the application and required legal documents comes with a fee, which, in most states amounts to $50 — though, in some, it can total as much as $300. Most states require new LLCs to file Articles of Organization with the state; they many also require an Operating Agreement. On an annual basis, LLCs also pay an aptly named annual report fee; though the cost varies by state, it’s usually around $100.
Of course, no matter your state, officials need to know the name of your business and what it plans to do. This description of the business is called a statement of purpose and entails a short description of the services the business will offer to the public. Additionally, the business will need to appoint a manager, which is often the business owner in a single-member LLC. To ensure all correspondence is received, LLC’s also need an official address and a registered agent, who must be different from the LLC’s manager.
Usually, forming an LLC is a simple process with nominal fees. Online, you can find Articles of Organization templates as well as services that will complete the whole process for you for a fee. If an LLC has many members — or includes other business entities as members — it may be the most prudent choice to seek the expertise of an attorney to draft legal documents for said LLC.
Advantages and Disadvantages of Owning an LLC
As the name suggests LLCs are known for limiting the personal liability of individual business owners. Suppose Albert owns a lawn maintenance service called Albert’s Lawn Service. If one of Albert’s employees accidentally scratches the paint on a customer’s car while servicing their yard, the customer may file a lawsuit in the hopes of receiving compensation. If Albert does not have an LLC, the customer may sue Albert, but if Albert’s Lawn Service is an LLC, the customer will have to sue the business, which is its own legal entity.
Since LLCs are not registered corporations, the government allows these businesses greater freedom as to when (or if) they have member meetings. There are also less hard-and-fast rules when it comes to accounting, taxes, the number of people who can have an ownership interest in the business, and the location of the people who own the business. In fact, an LLC can be filed in any state, even if the business will do most of its operations in another state.
Depending on the laws of succession in the state, an LLC could be dissolved automatically if a managing member dies. In a corporation, such as an S corporation (S-corp), the business is viewed as a living entity of its own that can survive the death of a managing member. Moreover, if LLC members file the profits and losses of the LLC on their personal taxes, they may lose out on tax advantages they could earn if the business was established as an S-corp or a C-corp.
For smaller businesses, especially sole proprietorships, the biggest disadvantage of an LLC could be an unnecessary expense. Without question, some businesses need the liability protection of an LLC. If a business is a side gig that the owner does not work at regularly or does regularly engage in potential activities that can create liability, the costs of annual reports could consume the small profits that the business would otherwise earn.
In short, an LLC is just one of many methods to legally establish a business. While the cost of owning one varies from state to state, an LLC is often the most cost-effective method of legally acknowledging that multiple parties own a given business. This form of business also creates a clear separation between the interests of the business and the interests of the business owner.