Limited Liability Company: Types, Advantages, and Forming an LLC
Table of Contents
- 1 What Is a Limited Liability Company (LLC)?
- 2 Types of LLCs
- 3 Advantages and Disadvantages of a Limited Liability Company
- 4 Forming an LLC
What Is a Limited Liability Company (LLC)?
A Limited Liability Company (LLC) is a popular business type among small business owners. An LLC is considered a separate legal entity, similar to a corporation, and gets a tax identification number, can open a checking account, and do business under its own business identity.
This type of company limits the liability that shareholders (owners) are subject to on behalf of the company, but is significantly less complex in its organizational structure and managerial demands than a corporation. Many large and well-known corporations, such as Amazon, PepsiCo, Sony, and eBay formed LLCs to compartmentalize areas of their business and further protect the corporation.
Is an LLC a Corporation?
LLCs are companies, not corporations. When they are formed, the sole proprietors, or partnership members, file Articles of Organization, unlike a corporation, which files Articles of Incorporation. Although LLCs, like corporations, are considered separate and legal entities that are recognized in all states, the business is not incorporated.
Types of LLCs
There are several different types of LLCs; including domestic LLCs, foreign LLCs, and professional LLCs, all of which are created with slightly different functions by shareholders.
Domestic Limited Liability Company
If an LLC operates in the state it was created in, it’s referred to as a domestic LLC. Most of the time, when people refer to an LLC, they are referring to domestic LLCs, as these are often the form that small local businesses take upon filing for a business status.
Foreign Limited Liability Company
If members of an LLC wish to change the state from which the business’ main office or location operates out of, the domestic LLC must apply to register as a foreign LLC in that state. A domestic LLC must also apply to register as a foreign LLC once it outgrows its home state and chooses to expand and operate in any other state.
Professional Limited Liability Company
A professional LLC is for professional service companies, like legal practice or accounting services companies. These service companies are often required to acquire for state-issued professional licenses to be registered as professional LLCs. However, even with a professional LLC, company members are not protected from being personally liable for malpractice claims.
Advantages and Disadvantages of a Limited Liability Company
There are advantages and disadvantages to forming an LLC depending on what you’re hoping to accomplish as a company. It’s relatively simple to register as an LLC; however, being a registered LLC instead of simply a sole proprietorship or partnership helps give your business credibility with future partners, clients, suppliers and lenders. LLCs are a favorable type of company due to their relatively laid back nature, especially when compared to corporations, and their ability to serve business owners who are not U.S. citizens or permanent residents.
Taxes for an LLC do not require the owners to file a corporate tax return. Instead, LLC owners report their share of profit and loss on their individual tax returns, meaning they avoid double taxation by reporting through their personal tax return instead, a process known as pass-through taxes. Avoiding the corporate tax rate can result in hundreds of thousands of dollars saved by an LLC. However, while this often saves a company money, some LLC owners elect to have the LLC taxed as a general corporation or S corporation. While this is more complicated, it combines the simplicity of the LLC with the tax benefits of a corporation.
In an LLC, the sole proprietors or partnership are usually not personally liable for the company’s debts or lawsuits accrued during operation — unless the lawsuit is for a malpractice claim for a professional LLC. This provides shareholders with limited liability and legal protection for business debts and obligations.
Forming an LLC
Like corporations and any other type of business, there are advantages and disadvantages to the organizational structure of an LLC, and before selecting the type of company you wish to proceed with for your business, you should weigh the pros and cons of each to find what will work best for what you’re hoping to accomplish with your business.
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This post was updated December 18, 2018. It was originally published December 15, 2018.