If you’re going into business, or you already are operating and making money but haven’t made it official yet, a limited liability company (LLC) is likely the best choice for you. Here’s why.
It limits your liability, duh.
Think you’ll be fine on your own? Consider these not-so-fun facts:
- In the first year of operating, 25% of start-ups fail. In the second year, that number goes up to 36%, and up again to 44% in the third.
- 80% of the world’s lawyers live in the United States. Why? Because we are the most lawsuit-happy country in the world.
If you’re fond of your home and your savings account, you should legally separate your business from them in case you go bankrupt, get in over your head with business debt, or get sued. As long as you haven’t committed fraud or some other illegal business practice, an LLC protects your personal assets.
It’s the most tax-simple business entity.
You can choose how your LLC is taxed. Unless you elect otherwise (more on that later), the IRS considers an LLC a “pass-through” or “disregarded” entity, which means you report your income directly on your own individual return. This makes doing your taxes easy – or at least no more complicated than it was before. You can also deduct business expenses, losses, and your personal insurance costs if you’re an owner (or “member” in LLC-speak).
If ownership of the LLC is split between more than one member, each member is only taxed on his or her percentage of the profits, depending on how much of the LLC he or she owns.
An LLC is very easy to set up.
You can do the paperwork and register it with your state on your own for a one-time filing fee, or you can use a lawyer (or a cheaper service like LegalZoom) to do it on your behalf.
If you’re a lone wolf or you have partners, an LLC is a no-brainer. There are a couple of things you should keep in mind before you start:
- LLCs are state-based, so the rules vary slightly depending on where your business is based. If your LLC operates in more than one state, setting it up and doing its taxes is a bit more complicated.
- Partnerships of any size can share ownership. This is called a “multi-member LLC” as opposed to a “single-member LLC”. To make taxes, transfers, and changes in membership smooth sailing, you’ll need an operating agreement with as much specific forethought as possible. An operating agreement is required in some states, anyway.
- Many sources list this as a “con”, but chances are you’ll be fine. The LLC is the youngest variety of business available. This means that the pool of case law surrounding it is much smaller. In the past 40+ years since it was invented, most complications have been handled, so unless you encounter a one-in-a-billion issue, you should be fine.
- A note on C (or S) corporations, in case you’re undecided. Income from a corporation is taxed twice – once as the corporation’s profits, and again as your individual income when you keep some of those profits. With a corporation, you also have to have a board of directors and shareholders. One pro of the corporation comes into play if you want to keep a large amount of profit in the LLC instead of divvying it up between the partners. These are called “retained earnings”, and are taxed at a much lower rate for corporations. If you want the best of both business structures, you can elect to have your LLC taxed as a corporation.
If you’re worried about whether an LLC will be the best bet as your business grows, don’t. Many large companies are LLCs. To list a few: Chrysler, Enterprise Rent-A-Car, the U.S. Postal Service, Kaiser Permanente, Mars (as in candy), and Toys ‘R’ Us.
At the end of the day, registering your money making venture as an honest-to-goodness business means you’re invested in its success. If it’s not a business, it’s just a hobby.