Key Takeaways

  • An LLC (Limited Liability Company) combines liability protection with tax flexibility, appealing to small businesses.
  • LLCs offer flexibility in ownership, profit distribution, and management structure.
  • Disadvantages include higher setup/maintenance costs than sole proprietorships and limitations on raising capital.
  • Formation steps include choosing a state, filing Articles of Organization, and creating an Operating Agreement.
  • LLCs can be compared to corporations and partnerships in terms of taxes, ownership, and compliance.
  • LLCs can be used by various entities, including individuals, foreign entities, and other LLCs.

What Is an LLC Business

“What is an LLC Business?” is a common question for those interested in starting a corporation. LLCs are far less complex business structures than corporations, but they still offer some of the same benefits. It is the simplest business structure that protects individual owners from personal liability for company losses. The structure and management of an LLC are also much more flexible than with the corporate structure.

LLCs also carry the benefit of acting as “pass-through” entities for tax purposes. This means that the profits and losses of an LLC pass directly through to the individual owners, and as a result, the LLC itself does not need to pay taxes on company profits.

Whether the LLC structure is right for your business depends on the short- and long-term goals of your business, the tax implications of choosing an LLC instead of incorporating, and the legal risks that your business will be taking on. Deciding on a business structure is a major decision.

Owners of an LLC are called “members.” An LLC is considered a separate legal entity, so members of an LLC are generally not liable for LLC debts.

An LLC can be created by filing Articles of Organization with the state government. In most states, this filing goes to the Secretary of State. Each state has its own laws defining and governing LLCs.

Key Features of an LLC Business

An LLC business blends characteristics of both corporations and partnerships. Like corporations, LLCs provide limited liability protection, shielding personal assets from business debts. However, unlike corporations, LLCs generally avoid double taxation thanks to their default classification as pass-through entities. This means profits are only taxed at the individual level.

LLCs are recognized in all U.S. states and governed by state statutes. Ownership is flexible—members can be individuals, corporations, or even other LLCs. Some industries, like banking or insurance, may be restricted from forming LLCs depending on state laws.

Advantages of an LLC

One major advantage of an LLC is that they are not viewed as separate tax entities by the IRS. This means that LLCs do not need to pay taxes. Instead, the members pay taxes on whatever income they derive from the LLC on their own individual income taxes. This contrasts with the traditional corporation, which is required to pay the corporate tax rate.

Although LLCs are not separate tax entities, they are separate legal entities, and as such, just like shareholders of a corporation, members are still insulated from personal liability for company losses.

Any legal entity can be an owner of an LLC; they are easy to form and less costly to maintain than corporations. Unlike corporations, LLCs are not required to have a Board of Directors, to hold annual meetings or keep records, or to make any public financial disclosures.

LLCs are also very flexible in how they can be managed and structured. Members can manage an LLC or they can elect others to manage the LLC for them. The rights and duties of the members can be established in whatever way the members agree to in the LLC operating agreement. And the ownership interest of LLC members can be determined in whatever way the members agree to, regardless of capital or labor contributions to the LLC. Moreover, profits and losses can be allocated to members independently of ownership interests.

All of these points of flexibility sharply differ from corporations, which are restricted in how they must be managed, require a Board of Directors and corporate officers, and generally allocate ownership strictly according to percentage of shares owned.

LLCs are recognized in every state and generally are the preferred entity choice for small businesses for the above reasons.

Additional Benefits of an LLC Business

  • Heightened Credibility: Forming an LLC can enhance business legitimacy in the eyes of banks, suppliers, and customers compared to operating as a sole proprietorship or partnership.
  • Fewer Formalities: LLCs face less stringent record-keeping and reporting obligations than corporations.
  • Flexible Profit Distribution: Members can divide profits in ways that do not directly correlate with ownership percentages, as long as it's outlined in the operating agreement.
  • No Residency Requirement: Most states allow non-U.S. residents to form and own LLCs, though some business types may be excluded.

Disadvantages of an LLC

Unlike corporations, LLCs cannot issue stock publicly. This makes it much more difficult to expand an LLC and to attract new investors. It also makes it more difficult to sell or transfer ownership interest in an LLC as compared to a corporation.

Corporations have been around for centuries, but LLCs have only been an accepted business entity since the 1970s. As such, the law surrounding LLCs is less established. Although all states recognize LLCs, in some areas there is no uniformity of law, which can lead to greater legal uncertainty.

Common Challenges with an LLC Business

  • Limited Lifespan: In some states, an LLC may be automatically dissolved upon the death or bankruptcy of a member unless otherwise stated in the operating agreement.
  • Self-Employment Taxes: LLC members typically pay self-employment tax on their share of profits, unlike S corporation shareholders who may avoid this on distributions.
  • Transfer Restrictions: Selling or transferring membership interests can be more complex than selling corporate stock. Often, other members must approve new members or ownership changes.
  • Ongoing Compliance: Some states require LLCs to file annual reports or maintain a registered agent, adding to long-term maintenance duties.

Steps to Forming an LLC

The first steps to forming an LLC are to choose a state in which the business will be headquartered and to choose a name to call the LLC. Many business owners file their LLC in the state that they are located in or where they will be doing business, but others opt to form their LLC in a state with more corporate-friendly laws, such as Delaware.

After choosing a state, it is important to choose a good name. Any name that is already taken is protected by federal trademark laws, so the LLC must have a unique name.

Forming an LLC requires filing Articles of Organization with the state, usually with the Secretary of State. This is a relatively simple document containing the members’ names, the LLC name, and contact information for both, including a Registered Agent for the LLC. Some states may require additional information to be included in the Articles of Organization.

Members should next draft an Operating Agreement. In most states, this document is not legally required, but it is always a good idea to have. An Operating Agreement outlines the rights and duties of each of the members, describes how the LLC will be managed, and plans for contingencies such as what happens when an LLC member wants to leave the LLC.

Business owners should also make sure they apply for any state or local business licenses they need, as well as file a form with the IRS to obtain an Employer Identification Number (EIN).

Should I Form an LLC

Before forming an LLC, business owners should explore other business entity structures, including S corporations, C corporations, partnerships, and sole proprietorships. Corporations are more complicated and costly to create and maintain, but they offer some powerful benefits, as well. Partnerships and sole proprietorships are easy to create and maintain — they don’t even require filings with the state to create — but they don’t offer the benefit of protecting owners from personal liability for company debts and losses.

Because LLCs are not taxed, members only need to pay taxes on the money they get from the LLC on their personal income taxes. This is generally preferential to the way corporations are taxed. Corporations must pay the corporate tax rate on corporate profits, and then shareholders must pay additional taxes on the dividends they receive. This so-called double taxation is avoided with LLCs.

Where Should I Form My LLC

Many business owners choose the state they are from or doing business in to form their LLC. This is often the easiest thing to do. However, it usually isn’t required that business owners form their LLC in the state they are operating or living in, and it often isn’t the best financial choice to do so. Every state has its own corporate and tax laws, and other options should be considered.

For years, Delaware has enjoyed the status as the best state when it comes to corporate laws. Many companies decide to incorporate or form an LLC in Delaware because there is a low corporate tax rate and because laws are very business friendly. Other states offer varying benefits to LLCs. A business attorney can help you understand which states will be best for you based on your business needs and the legal risks your business will be taking on.

When a business will be operating in more than one state, it will need to register as a foreign LLC in the states it is operating in (aside from the state the LLC is formed in).

Types of LLCs

All LLCs offer limited personal liability and pass-through taxation by default. However, LLCs can elect to be taxed as a corporation instead if the members choose so.

A “domestic LLC” is one that is operating in the same state it is formed in. When operating in any other state, the LLC is operating as a “foreign LLC.” A professional LLC forms some specific professional service. Many lawyers and doctors form LLCs. Professional LLCs are often required to operate only domestically because of professional licensing rules. Typically, forming an LLC does not insulate individual members of a professional LLC from professional malpractice claims.

Real-World Examples of LLCs

LLCs are used across industries. Notable examples include:

  • The Wonderful Company LLC
  • Pilot Travel Centers LLC
  • Professional LLCs (PLLCs): Common among doctors, lawyers, and accountants
  • Single-member LLCs and Family LLCs: Popular for estate planning or solo operations.

Cost of Forming an LLC

The cost of forming an LLC can vary significantly by state. Each state sets its own filing fees for the Articles of Organization, and most require ongoing annual fees to maintain the LLC’s active status. For example, states like California impose an additional annual franchise tax on LLCs. In general, you can expect to pay several hundred dollars upfront and similar amounts annually. If you choose to consult a business attorney for setup or compliance, you should also account for those legal fees.

Role of a Registered Agent

A Registered Agent is a designated individual or entity authorized to receive legal documents, such as service of process and official government correspondence, on behalf of the LLC. This role is required by law in every state, and the Registered Agent must be named in the Articles of Organization. An LLC member can serve as the Registered Agent, or the company may choose to hire a professional Registered Agent service to ensure consistent availability during business hours.

LLC vs Corporation

An LLC, or Limited Liability Company, is not a corporation. Unlike corporations, LLCs are not incorporated entities and are instead established through state filings. The distinction is important because LLCs offer a different balance of tax treatment and operational flexibility. The term "LLC" should not be confused with "corporation," even though both provide limited liability protection for owners.

Purpose of an Operating Agreement

An Operating Agreement is a foundational document that outlines how the LLC will be managed and how key decisions will be made. It typically details the rights and responsibilities of each member, the allocation of profits and losses, and procedures for adding or removing members. It may also specify how the LLC will handle dissolution or a member’s departure. While not required in every state, an Operating Agreement is strongly recommended for internal governance and dispute prevention.

State Taxes and LLCs

Although LLCs are generally considered pass-through entities for federal tax purposes—meaning the LLC itself does not pay income tax—state-level taxes may still apply. Some states impose their own income taxes on LLCs, and others may require additional fees such as franchise taxes or gross receipts taxes. Business owners should verify the tax obligations in each state where the LLC operates.

Employment and Tax Requirements

If your LLC has employees, it must comply with employment-related tax and registration requirements. This includes obtaining an Employer Identification Number (EIN) from the IRS, as well as registering for Unemployment Insurance and Income Withholding Tax with the appropriate state agencies. These steps are essential for ensuring legal compliance when hiring and paying workers.

Limited Partnership vs LLC

Limited partnerships are entities that have “general partners” and “limited partners.” The general partners have managerial control over the partnership as well as full liability for partnership liabilities. Limited partners are not allowed to participate in managing the partnership, but they are protected from any person's liability for partnership losses or liabilities.

Both general and limited partners share in the profits of the partnership according to the partnership agreement. Limited partnerships can provide tax deductions to employees, and can offer benefits like health insurance. General partners can also deduct pension plan expenses. While an LLC is governed by an Operating Agreement, an LP is governed by a Partnership Agreement that operates similarly.

Comparing LLCs to Other Business Entities

When choosing a structure, compare the LLC to:

  • S Corporations: Like LLCs, they avoid double taxation. However, they are limited to 100 shareholders and must adhere to strict eligibility criteria.
  • C Corporations: Offer easier transfer of ownership through stock sales but face double taxation unless elected as S Corps.
  • Sole Proprietorships: Simple and inexpensive to form but offer no personal liability protection.
  • Partnerships: Also easy to establish and maintain but expose partners to full liability unless formed as an LLP.

Frequently Asked Questions

1. What is the main benefit of an LLC business? The primary benefit is limited liability protection for its members while still allowing pass-through taxation.

2. Can foreign individuals own an LLC? Yes, most states permit foreign individuals and entities to own LLCs, though specific industries may be restricted.

3. Is it better to form an LLC in Delaware or my home state? While Delaware offers favorable business laws, forming an LLC in your home state often avoids foreign qualification fees and complexity unless you’re doing business across multiple states.

4. Can an LLC issue stock like a corporation? No. LLCs do not issue stock. Ownership is structured through membership interests.

5. How is an LLC dissolved if a member dies? Some states require automatic dissolution unless the operating agreement specifies continuity provisions. It's crucial to include such terms when forming the LLC.

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