Who can form an LLC? A small business owner who drafts an articles of organization and pays the filing fee can create an LLC. Creating an LLC is a big step and comes with various benefits and drawbacks, depending on your business goals. With that, you have other options available aside from creating an LLC, such as registering a corporate entity. However, LLCs come with fewer formalities, and you are free to tailor an LLC management structure how you see fit.

Managing a business is a time-consuming process, and it was one of the reasons why the LLC was created in the 1970s. The LLC structure was designed to give small business owners the flexibility to operate a business without extensive requirements, as is the case with a corporate entity.

LLC Creation Process

Most states only require a fee and an articles of organization to register an LLC. Moreover, you may have the option of filing online, including the filing of annual documents. If you own a partnership or sole proprietorship, you should consider transitioning into an LLC because it gives you more legal protections, and you can still retain the small business aspect of your operations.

LLC Definition

An LLC is a legal entity that gives owners various limited protections in the same manner as a corporation. LLCs resemble partnerships, but the personal assets of owners are protected from court judgments in the event of litigation.

  • Note: LLCs are most notable for pass-through taxation. Pass-through taxation occurs when profits and losses flow from the business entity to individual members to file on their personal tax returns. LLCs do not pay business income taxes.

Regarding sole-member LLCs, pass-through taxation means that he or she will submit a Schedule SE for self-employment taxation and a Schedule C to record deductions and revenues. For multi-member LLCs, matters can get more complex. For instance, you need to file a partnership-based return known as 1065, including a separate K-1 for each LLC member to use on their individual tax returns. The K-1 form shows the following:

  • Profit allocations
  • Credits
  • Losses

The pass-through feature also allows members to deduct losses against other income sources. For individuals holding liens against businesses cannot seize personal assets of the members in most states. With that, LLC legal safeguards do not apply to illegalities committed by the owners, and courts can remove protections in cases of negligence or fraud.

LLC Taxation

Unlike corporations, LLCs are not considered a distinct legal entity and cannot be taxed. Therefore, owners must choose the appropriate taxation for their business. For instance, LLC owners can also choose to be taxed as either an S or C corporation.

Choosing a C corp tax structure means that the LLC would pay business income taxes in the same way as a standard corporation. Choosing an S corp tax method affords owners the same pass-through taxation method, and owners can use the S corp system to reduce his or her self-employment tax balance.

  • Note: An S corp is a tax-based entity and not a separate legal corporate entity. Rather, it is a tax-based designation from the IRS, and LLC owners must submit Form 2553 to the IRS if they wish to obtain the S corp classification.

When it comes to tax benefits, LLCs can be placed in living trusts, which provides various tax advantages and allows for efficient estate planning. However, such a topic can get highly complicated, and you should talk with an attorney before embarking on such a strategy.

LLC Benefits

LLCs yield a wide array of benefits to LLC owners. For instance, LLCs permit an unlimited amount of owners, and there are no restrictions on who can be an owner. The most notable benefit is choosing a tax classification, especially a corporate designation. Choosing a corporate designation makes sense for two primary reasons:

  • The business is involved in high-risk activity that could open it to potential lawsuits, or the piling of large debts
  • LLC owners have a great deal of personal assets that they want to safeguard

LLC Fees

States have varying legal requirements regarding LLC registration. Certain states charge annual taxes and fees that could be a hindrance to business owners. For instance, California charges an $800 yearly tax, in addition to annual fees ranging from $900 to $11,760 based on annual income surpassing $250,000.

Who can form an LLC? If you have more questions on LLCs, submit your legal inquiry to our UpCounsel marketplace. UpCounsel’s lawyers will give you more information on the LLC filing process, including the necessary maintenance procedures you need to be aware of in your state. In addition, they will help you determine if an LLC is the right choice for your business goals.