As a result, you've discovered a viable business concept and are enthusiastic about realizing it. You've done your homework and come to the conclusion that the best method to safeguard your legal rights and those of your company is to create a legal entity.
So you make the decision to establish a limited liability corporation (LLC). But how do you do it, and what are the things you need to think about? The main benefits and drawbacks of founding an LLC in the US are covered in this essay, along with tips for ensuring a successful formation.
Source: https://bbcincorp.com/offshore/articles/us-limited-liability-company-advantages-and-disadvantages
What advantages do LLCs offer?
The following are a few benefits of choosing an LLC as your company structure:
accommodating tax policies
Tax-wise, LLCs have more tax-related freedom. LLCs have the option of electing to be taxed as S-Corporations or C-Corporations in addition to the IRS's two default tax statuses, depending on the needs of the firm.
A tax professional should be consulted to determine which tax status is best for your company because each one has advantages and disadvantages of its own.
A sole proprietorship for tax purposes
The company income from a single-member LLC is included on the member's personal tax return since the LLC is regarded as a solo proprietorship for taxation purposes. The member saves time and paperwork by not having to submit a separate business tax return.
Partnership taxation
In the absence of a request to be regarded as a corporation, which exempts it from paying taxes on business revenue, the IRS recognizes a multi-member LLC as a partnership for tax purposes. Pass-through taxation, often known as passing along profits and losses to the members, is the practice of doing this.
Because the profits pass directly to the owner and are taxed at the personal income tax rate when an LLC is taxed as a partnership, double taxation is avoided.
When corporate and individual taxes are applied twice to the profits of an organization, this is known as double taxation.
As an illustration, the profit of a corporation is taxed twice: once when it is made and once when it is paid to shareholders as dividends.
It is not tax deductible for a corporation to pay dividends to its shareholders. Losses incurred by the company cannot be claimed by shareholders.
A C corporation for tax purposes
A C-corporation designation may be chosen by the members of your LLC. In this scenario, the LLC would submit a corporate tax return and pay taxes on corporate income, but it would be exempt from self-employment tax.
Due to the fact that corporate profits are taxed twice—once when they are made and again when they are dispersed to the members as dividends—this structure is, nonetheless, liable to double taxation.
S corporation taxed
With the use of IRS Form 2553, an LLC can choose to be taxed as a S corporation. The LLC would be shielded from corporate income tax as a result, and social security and Medicare taxes would be deductible on the tax return.
Rather, the business will be subject to pass-through taxes that resemble partnership taxation.
How Does an LLC Receive S Corp Tax Treatment?
To be taxed as a S company, Beth chooses to set up an LLC for her cryptocurrency business.
yearly revenue for the business is $200,000. Beth receives a $100,000 salary as an employee, and the additional $100,000 in earnings are passed through and recorded as a S company distribution on Beth's individual income tax return rather than as an employee salary.
Bath nor her employer are required to pay Social Security or Medicare tax on this sum because it isn't considered to be employee wages. Self-employment taxes alone total $15,300 (15.3% x $100,000 = $15,300), which is the only payment required.
If Beth hadn't elected to have her LLC be treated as a S corporation, she would have been required to pay self-employment tax on her whole $200,000 profit. Additional Medicare and Social Security taxes totaling $2,900 and $1,252 respectively must be paid as a result (total sum for both employer and employee).
Protection against liability
An LLC limits members' financial risk exposure and prevents the use of assets to settle business obligations, hence reducing members' personal culpability. Assets belonging to the members, such as their homes, automobiles, properties, or investments, are often protected from being seized if the LLC is sued or owes money.
The Operating Agreement, which is created by an LLC's members, must outline the level of liability protection that each member wants. Some members would want total liability protection, whilst others might be content to take on some personal risk in exchange for receiving a bigger cut of the profits.
All members may be required to sign a personal guarantee, outlined in the LLC's Limited Liability Company Agreement, stating the conditions under which they would be held accountable for the debts of the LLC.
You could forfeit this crucial safeguard and be held accountable if your LLC participates in fraud or other criminal activity. You might be responsible if, as an LLC owner, you sign a contract without the proper authorization and the LLC is unable to uphold its end of the bargain.
As a result, even though an LLC provides some limited liability protection for individuals, it's crucial to know when this protection stops working and take precautions to lower your risk.
If you value your privacy, an LLC can be a huge benefit because it enables business owners to keep their personal and professional matters distinct.
You can create an LLC without disclosing your identity since certain states do not require LLCs to list members on formation forms. This isn't necessarily the ideal strategy, though, from the perspective of a business because it can make getting a bank account and building credit for a firm harder to do.
It's also crucial to keep in mind that each state has distinct regulations regarding LLCs, so find out what kind of disclosure is necessary by contacting the Secretary of State's office in your state.
When it comes to company privacy rules, Wyoming and Delaware are fantastic choices if identity protection is your main issue.
A few more benefits of LLCs
procedures at a minimum
Members of LLCs are expressly excluded from the following duties, and there are fewer formalities and paperwork to file than with corporations:
conduct yearly general meetings under rigorous record-keeping guidelines.
upkeep information about the officers, directors, workers, and shareholders
Additionally, the guidelines that govern your LLC formality can be modified as necessary in an Operating Agreement.
versatility in management
You can pick between two management strategies:
Every member can take part in the management and decision-making of the organization under a member-managed model.
Manager-managed approach: Members designate one or more managers to oversee daily operations and make business decisions on their behalf.
In light of the members' abilities, interests, and time commitments, you are then free to decide how to administer your business most effectively.
Affordability and simplicity of setup
A minimal amount of initial paperwork and affordable setup costs make the LLC easy to start up. It's easy to incorporate a business; all you have to do is submit the Articles of Organization and the requisite filing fee to your state's Secretary of State office.
For your LLC to continue to be treated as a legal business company, you must submit an annual report and pay an annual fee. State-specific regulations may differ, but they are typically much less onerous than corporate regulations.
What negative aspects of LLCs?
Take into account the following potential drawbacks before registering your company as an LLC:
few available investing options
You can have trouble raising money because an LLC is unable to issue shares to outside investors. Changing your LLC into a corporation, which may be a time-consuming and expensive process, is necessary if you want to draw in outside investors.
The inability of investors to join an LLC without the approval of all other members makes it difficult to transfer ownership of the company.
Even if all members consent to the transfer, certain states may still oppose it unless there are extraordinary circumstances, such as a member's death, divorce, retirement, or another similar occurrence.
More taxes to pay
The LLC could have additional expenses, depending on the state you picked, like:
Tax on franchises
For the right to conduct business there, some states charge LLCs this fee (e.g., California, New York, Delaware, etc.).
Franchise tax may be a fixed amount or a portion of the LLC's earnings, depending on the laws of the state.
payroll taxes
In some states, LLCs with employees are required to pay federal employment taxes, principally Social Security (6.2% for the employer and 6.2% for the employee, for a total of 12.4%); Medicare (1.45% for the employer and 1.45% for the employee, for a total of 2.9%); and Unemployment Tax at a rate of 6%.
Persistence fees
For the LLC to maintain good legal standing, an annual fee is due. Despite varying by state, the renewal charge for an LLC is typically higher than that for other business models.
Due to the requirement to complete additional documentation for each series if you decide to set up as a series LLC, your maintenance costs may be much greater. If you want to conduct business in other states, you could also have to pay overseas qualification costs.
Structure is less
Because there are fewer rigid regulations, LLC members have more leeway in how they conduct their businesses. However, this freedom comes with less structure and increased risk. It could be challenging to hold members accountable for their conduct if, for example, members are not obligated to hold frequent meetings or preserve minutes.
Additionally, there is a chance that the group's members won't be able to agree on important business choices, which could cause paralysis or even the dissolution of the organization.
The risk of a project can be reduced with a well-written operating agreement. Although it will cost more to have an attorney draft it for you, doing so will safeguard your LLC from any member disputes and make sure everyone is in agreement regarding how the business is run.
An LLC's advantages and disadvantages are clear to observe, but how can you be sure that it's the ideal legal form for your circumstances?
By providing your answers to a few short questions, you can use our US Business Entity Selection Tool to identify the best business type.
Final reflections
It is now clear to you that creating an LLC has both benefits and drawbacks. It will increase your confidence that you are making the right choice for your business if you take into account both sides of the issue.
Chat with our helpful expert for assistance in the real world if you're still not sure if an LLC is the best business structure for you. Send us an email at service@bbcincorp.com, and we'll respond as quickly as possible.
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