How to Start an LLC and Protect Your Personal Assets

A limited liability company (LLC) is a business structure that combines the benefits of limited liability protection with pass-through taxation.

Limited liability means that business owners are generally only at risk of losing the amount they have invested in the business, as the LLC exists as a distinct legal entity from its owners. This separation typically prevents owners from being held personally accountable for the company’s debts or obligations.

In terms of taxation, LLCs enjoy pass-through taxation, which ensures that business income is not taxed at the entity level. Instead, the income or loss reported by the LLC is transferred to its owners, or members, who then include it on their individual tax returns. For single-owner LLCs, the business can be treated as a “disregarded entity,” eliminating the need for the LLC itself to file a separate tax return. However, in LLCs with multiple owners, an informational tax return must be submitted for the company alongside the owners’ individual tax returns.

Advantages of an LLC

Opting for an LLC structure offers a range of benefits compared to sole proprietorships, general partnerships, or corporations.

1. Limited Liability Protection:
   LLC members (owners) are shielded from personal liability for the company’s debts or actions. Creditors cannot pursue personal assets such as homes or savings accounts to settle business debts. In contrast, sole proprietorships and general partnerships do not offer this distinction, leaving owners’ personal assets vulnerable.

   Note: Certain situations, known as “piercing the corporate veil,” can result in the loss of this protection. For tips on avoiding this, see How to Avoid Piercing the Corporate Veil.

2. Flexible Ownership:
   LLCs allow ownership by individuals, partnerships, trusts, or corporations without any restrictions on the number of members. This flexibility sets LLCs apart from S corporations, which face limitations on the number and type of shareholders they can have.
3. Flexible Management:
   An LLC can be structured as either member-managed or manager-managed. In a member-managed setup, the owners oversee daily operations, whereas a manager-managed LLC delegates operational control to appointed managers, resembling the structure of a corporation.
4. Pass-Through Taxation:
   Unlike corporations taxed at both the entity and shareholder levels (C corporations), LLCs avoid double taxation. Owners report income or loss on their personal returns.
5. Credibility:
   Forming an LLC can enhance the legitimacy and professionalism of a business, which is often more appealing to potential clients and partners compared to sole proprietorships or partnerships.
6. Reduced Compliance Requirements:
   LLCs face fewer regulatory obligations than corporations, including fewer formalities imposed by state laws.

Considerations for LLCs

While LLCs offer many advantages, there are a few potential drawbacks:

1. Costs:
   Establishing and maintaining an LLC can be more expensive than operating as a sole proprietorship or partnership. States may charge initial formation fees and recurring fees, such as annual reports or franchise taxes.

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2. Ongoing Obligations:
   LLCs must meet certain compliance requirements, such as maintaining registered agents and filing reports with the state. On the federal level, LLCs may also need to keep their beneficial ownership information updated with the Treasury Department’s Financial Crimes Enforcement Network (FinCEN).
3. Transferability of Ownership:
   In contrast to corporations, where it is simple to sell shares of stock, transferring ownership in an LLC can often be more challenging. Adding new members or changing ownership percentages in an LLC typically requires the approval of all current members unless otherwise specified in the operating agreement.

How to Form an LLC: A Step-by-Step Guide

Setting up an LLC involves some basic administrative steps. Although these may vary slightly by state, the general process includes:

1. • Choose a state to form your LLC:
   Most owners form an LLC in their home state to simplify compliance. Forming an LLC in another state often requires registering as a foreign LLC in your primary business state, which can increase costs.
2. Select a Business Name:
   Pick a unique name distinguishable from other businesses registered with the state. Check its availability through your state’s Secretary of State website and consider reserving the name for a small fee. Conduct a trademark search to ensure the name does not infringe on intellectual property rights.
3. Appoint a Registered Agent:
   A registered agent acts as the LLC’s representative for receiving legal documents and state correspondence. While LLC owners can serve as their own agents, many prefer hiring professional services to ensure reliable handling of important notices.
4. Draft an Operating Agreement:
   Though not always legally required, having a written operating agreement is essential. This document outlines how the LLC will operate, the roles and responsibilities of members, the process for admitting new members, and the distribution of profits and losses.
5. • File articles of organisation:
   To officially establish the LLC, submit formation documents (commonly called Articles of Organisation) to your state’s business filing office. Fees vary depending on the state.

Key Terms

It’s important to note that while LLCs are “formed” or “organised,” corporations are “incorporated.” These distinctions are essential when discussing business structures.