LLC Classes: Everything You Need to Know
LLC classes are the various classes of LLCs that operate in the business world. An LLC is a separate and distinct business from its owners.3 min read
LLC classes are the various classes of LLCs that operate in the business world. Specifically, the LLC, also referred to as a Limited Liability Company, is a separate and distinct business from its owners. The owners of the LLC, also called members, have great flexibility in how to manage the LLC. That is because there are few formalities when forming and operating an LLC, as opposed to a corporation.
What Are the Different LLC Classes?
The reason for the various classes of LLCs is due to the fact that the Internal Revenue Service (IRS) doesn’t view the LLC as a legitimate business structure for federal tax purposes. Therefore, after forming an LLC, the business owners must determine how they want to be taxed. They can be taxed in one of the following ways:
- C Corporation
- S Corporation
Keep in mind that even if the LLC is taxed in this manner, that doesn’t mean that the LLC is operating as any of the above business structures; the LLC will still offer the same benefits of limited liability protection and management flexibility for its owners.
If the LLC chooses to be taxed as a partnership, the owners will report the business profits and losses on their own personal income tax returns. Depending on the percentage of ownership that each owner has, some owners might be reporting greater profits than others on their personal tax documents.
C Corporation Taxation
If the LLC chooses to be taxed as a C corporation, the LLC will be required to pay federal taxes. Therefore, the business will pay taxes on the business’s profits and losses the same way in which a C corporation does.
S Corporation Taxation
If the LLC chooses to be taxed in this manner, the profits and losses from the business will pass through to the owners, who will report it on their individual tax returns, similar to that of a partnership. Keep in mind, however, that in order to qualify as an S corporation for tax purposes, the LLC must qualify to do so. For example, the LLC cannot have more than 100 owners, all of whom must be U.S. citizens or residents. The owners cannot be non-resident aliens, other corporations, or other LLCs.
Limited Liability Protection
The LLC members benefit from limited liability protection in the same way that corporate shareholders do. This means that members’ personal assets cannot be used to satisfy the business’s outstanding debts. Therefore, such members need not worry about losing their home, car, investments, cash, etc. However, an exception does exist in which a plaintiff might be able to pierce the corporate veil, and hold the member liable. However, this is very rare in the LLC and is mostly seen in a corporation. But, if the member engages in fraudulent or otherwise illegal activity, then he will be held personally liable.
LLC membership can vary, depending on how much ownership percentage each member holds. However, unlike the corporation, transferring ownership is difficult, and can result in involuntary dissolution of the LLC if a member leaves the business. That’s why it is crucial for an LLC to draft an operating agreement to identify the decision-making process and policies/procedures for such membership transfer and dissolution.
LLC Operating Agreement
The LLC operating agreement is a document that will include such membership transferability as well as other significant business decision items. The information to be addressed in this document includes:
- Member ownership percentages
- Voting rights
- Duties and responsibilities of members
- Who will manage the LLC (member-managed vs. manager-managed)
- How profits and losses will be distributed among members for tax purposes
- How buyouts will be handled
- How the members will handle lending contracts
- What happens if a member passes away, gets divorced, becomes disabled, or wants to leave the business
The operating agreement might need to be amended; therefore, it is important that for any changes being made, the operating agreement addresses those changes. Thereafter, all members should receive copies of the operating agreement. The document should also be kept on file for future reference.
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