Single member LLC liability protection is difficult to maintain because the IRS does not recognize them as being any different from a sole proprietorship. LLCs were intended to be partnerships. Therefore, your liability protection is much stronger as an LLC if you have a partner.

The IRS treats single-member LLCs as disregarded entities, which means they are considered sole proprietorships. This does not mean it's useless to create one. You will need to consider your own situation and business goals before deciding whether or not it's right for your company.

What is an SMLLC?

LLC is an abbreviation for “limited liability company.” When there is only one owner, the abbreviation used is commonly SMLLC. Many states did not allow single-member LLCs until recently, but now they are permitted in every state of the U.S. Unlike sole proprietorships, SMLLCs do offer liability protection for their owners.

An LLC with a single member is easy to set up and maintain, even more so than a multi-member LLC. Even though its limited liability may not be entirely enforceable, it still has many benefits. One of the most important benefits is that you can put “LLC” next to your company name, and many vendors, customers, financial institutions, and others who you encounter in the course of doing business will take you more seriously.

Switching your business to become an S corporation is a simple process as well. Doing so can reduce the amount of self-employment tax you pay. It's also easy to become a traditional multi-member LLC by giving a small amount of your company's value to a friend or family member.

Disadvantages of Single-Member LLCs

The main reason that the IRS isn't in favor of single-member LLCs is that the LLC entity was created to be a type of partnership. An LLC offers protection to its members from the actions of other members. If a member faced litigation or debt collection which resulted in the seizure of his ownership percentage, that would mean that the other members must accept a new partner instead.

For this reason, it's in your best interest to avoid running a business as a single-member LLC. You can solve this problem easily by taking on a partner. You don't need to sell or give away a large portion of your business to do this; just a minuscule amount such as two percent will do the job.

The partner you choose should be a friend or relative other than your spouse, however, because the IRS considers married LLC members as one member instead of counting them separately.

If you take on a partner, you might have a tough time relinquishing a part of your business to another individual, but you can still maintain control of it. If you set up your LLC to be member-managed, and appoint yourself as the manager, your partner will have no control over the business' daily operations and decision making.

Here are a few reasons you may consider taking the step of bringing in a partner instead of maintaining a single-member LLC:

  • Multi-member LLCs have much stronger liability protection than SMLLCs.
  • The IRS treats SMLLCs just like sole proprietorships. Any profit or loss realized by the company will need to be reported on the single owner's personal tax return using Schedule C.
  • The creditors of SMLLC owners may not be limited to charging orders while attempting to collect outstanding debt. This involves garnishment of the profit distribution from the LLC, but not the actual ownership.
  • Single-member LLC owners are less likely to keep adequate records, and may not have an operating agreement, which is a valuable document.
  • Most templates for drafting operating agreements are meant for multi-member LLCs, so SMLLCs need to be careful about making sure the terms of the agreement specifically apply to single-member situations.

To make sure your business entity maintains the strongest possible liability protection, we recommend consulting with an attorney who is familiar with LLCs and corporations. They will make sure all documents are drafted and filed properly so there will be no doubt of the legal separation between business assets and those belonging to its owner.

If you need more information or help with single member LLC liability, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.