Should I form a Limited Liability Company – Advantages and Disadvantages

 The Limited Liability Company (LLC) has become the go-to entity for most new small businesses, and has allowed members to become involved in that business while allowing them to manage their risk and limit their liability to the new LLC. The following is a short synopsis of the advantages and disadvantages of an LLC.

Advantages

Members of the LLC enjoy unlimited liability for debts and obligations of the LLC, even if they participated in management.  LLCs can be comprised of a single member or any number of members, and there is no limitation on the types of members. The organization of the LLC is very flexible, and members can choose from one similar to a partnership where all members are involved in management, or one more similar to a corporation in which only a few are given the authority to manage the day to day operations of the business. Similar to a partnership, the LLC profits are subject to tax only at the individual level, and so profits “pass through” the entity, to the members of the LLC.  Losses are similarly available to the individual members to offset other income from other sources.  LLCs can also make special allocations for tax purposes, and can make disproportionate distributions to its members according to its operating agreement or membership decisions. LLCs can also be converted into many other business entities, in a tax free transaction in most states, such as an S corporation, C corporation, partnership, or limited partnership.

 

Disadvantages

LLCs do require members to file at the state level to form the entity, as well as a continued compliance with operating formalities in order to preserve the limited liability protections. In some situations LLCs may be required to report regularly to the government, and qualifications must be met in order transact business in other states. Depending on the size of the LLC, a transfer of an interest in the entity may subject that member and the transaction to securities law regulation. Unless the LLC is manager managed, with the other members not participating in the operation of the entity, the members will be subject to a self-employment tax and the business profits will be taxed as income to each member. LLCs can be terminated in some states as a result of the bankruptcy, death, incompetence, dissolution, or withdrawal of a member, unless an agreement by the members or LLC provides otherwise.

 

In sum, LLCs are quick and efficient way to provide liability protection to individuals, entrepreneurs and entities who are looking to manage their risk in a flexible organization that is easily adaptable to the needs of the members. LLCs have become the most popular business structure because they can be used by all types of industries, and in most states can be formed with minimal filing requirements.

 

Photo By: Kevin Hudoba