Do I need an LLC: The Pros and Cons
Limited liability companies are top-rated due to tax advantages and liability protections. Unlike S corporations and C corporations, LLCs are easier to form and manage. Even so, there are times when creating an LLC would not be advisable.
What is an LLC?
A limited liability company is an entity where owners are saved from liabilities. The owners of an LLC are referred to as members and not partners or shareholders, as in partnerships and corporations.
An LLC can have one or limitlessly many members. There is no restriction on that. A majority of American businesses (2.4 million) are LLCs. Before you set up an LLC, consider these pros and cons.
How does LLC Work
An LLC is a state-mandated business entity that saves owners from partnerships and corporations’ many formation and management requirements.
Structure: An LLC comprises of members who are the shareholders or owners. An individual can form an LLC, in which case it would be a single-member LLC. When the company has two or more members, it is termed as a multi-member LLC.
Formation: S corporations must have fewer than 100 owners, with each of them being citizens or residents of the US. A limited liability company doesn’t have these requirements.
Management structure: LLC is managed by ‘managers’ and not a board of directors. The managers can be members of the company, but the owners hire non-member managers in most cases.
Administration and operation: If you start a corporation, the state laws require that the board of directors and shareholders hold regular meetings and submit annual reports to the state’s secretary. For LLC, these meetings are not mandatory.
Transfer shares to a trust: LLC owners can put their shares into a living trust.
Loss deductions: You can deduct the LLC losses from your personal income tax returns, just like sole proprietorships and partnerships.
Pas through taxation: LLCs are taxed once vis-a-vis sole proprietorships and partnerships. Corporations pay income tax for profits earned. When they are distributed to shareholders, each pays the second round of income tax on their rate.
Limited Liability Company Pros and Cons
Some LLC Advantages
LLC members do not personally shoulder the losses of the company. Company lawsuits are not personal lawsuits, and company creditors cannot come after your finances, home, or personal possessions if the worst comes to worst.
The business profits are not taxed. Instead, taxation is passed through to the individual incomes of the members after profits have been distributed. This is the biggest of all LLC tax benefits; the business is not taxed, but instead, members are taxed for income from the business. Attaining tax compliance becomes easy and fast.
If you own an LLC, you may qualify for up to a 20 % deduction from the business income. This is termed as a Qualified Business Income (QBI ) tax deduction, and it is not available for corporations. Meanwhile, you can further reduce the taxes on your income by claiming expense deductions.
The LLC can be managed by its members, allowing all owners to participate in the business’s day-to-day decisions. Outsiders can also manage it, and this is helpful if members do not have the needed business administration expertise.
The above are some of the most obvious advantages of an LLC. However, before registering your business as an LLC, you must look at the cons of this business structure to avoid nasty surprises in the long run.
Some LLC Disadvantages
Liability protection not robust
The limited liability pros offered by an LLC are not as robust as that of a corporation. If you don’t explicitly separate business transactions from your own, the courts can allow your creditors to seize your personal belongings when the business goes broke.
Medicare and social security taxes
The IRS treats LLCs as a partnership for tax purposes, except that members choose to be taxed as an organization. If the LLC gets taxed like a partnership, the government considers members who run the business independently. This means that those members are liable to pay Social Security and Medicare, which is collectively known as a self-employment tax and is based on the business’s full income. (Please discuss with your attorney and CPA what best structure is good for you)
Dissolution when a member leaves or dies
A few states stipulate that if a member becomes bankrupt, dies, or leaves the company, the LLC will be dissolved. The remaining members may become liable for all financial and legal, and financial requirements necessary to liquidate the business. If the remaining members still want to do business, they may have to start a new LLC from scratch.
LLC employees who receive benefits, like group insurance, medical reimbursement benefits, parking, and medical insurance, should take these benefits as income taxable. It is the same case for shareholder-employees that own 2 % or more of an S-corporation. Nonetheless, C-corporation employees who receive fringe benefits are not required to report these merits as income taxable.
Do I need an LLC?
Weigh the pros and cons of LLC as outlined here to make an informed decision. The LLC combines many aspects of a corporation, a partnership, and a sole proprietorship. The most significant benefits are its tax advantages, while the biggest drawback is self-employment taxes.
When you’re ready to form or update your LLC, Hess-Verdon has experienced legal professionals that can help you maximize your tax advantages and solidify your liability protections. Call Hess-Verdon, a California business attorney, at (949) 706- 7300.
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