What makes a limited liability company (LLC) such a popular business formation with entrepreneurs? There are several benefits to forming an LLC, including liability protection and the ability to quickly establish credibility with consumers. Another reason why LLCs are quite popular is due to the entity’s taxation benefits. Entrepreneurs may elect to choose the way they would like their business to be taxed thanks to the entity’s flexibility.
What does it mean for an LLC to elect to be taxed as another entity? Let’s take a look at the LLC business structure and taxation benefits associated with forming an LLC.
What’s An LLC?
A limited liability company (LLC) is a business structure that provides limited liability protection to businesses and entrepreneurs. Limited liability is a type of protection for your personal assets. It ensures that your personal liability for the business’ debts and obligations is no more than the amount of money you initially invested in the business.
Limited liability creates a separation between professional and personal assets. This helps protect your home, automobiles, and any other personal belongings that may potentially be impacted in an unforeseen circumstance, such as a lawsuit or debts accrued by the business.
What happens if you don’t have liability protection? Generally speaking, it’s highly likely you would not incorporate as an LLC since liability protection is built in this formation. Instead, an entrepreneur would be classified as a sole proprietor. This would make them responsible for everything impacting the business, good and bad. For example, let’s say that your business has fallen behind on its loan payments and continues to accrue business debt. What happens without limited liability protection? Your home may be collateral to repay the debt after a lawsuit or bankruptcy. However, if you incorporate as an LLC you will automatically receive liability protection. Forming a business entity does more than simply protect the company. It provides entrepreneurs with security and peace of mind.
What Makes LLCs Popular With Business Owners?
Aside from liability protection, business owners receive the following benefits when they incorporate as an LLC.
- Ease in maintenance. LLCs are flexible entities, which makes them a bit easier to maintain.
- Fewer annual requirements. There are less compliance requirements and formalities for LLCs, like taking annual meetings or minutes.
- Pass-through entity. This works well for taxes, which we’ll expand on in a moment.
LLC “Pass-Through” Entity Taxation Benefits
Part of an LLC’s popularity is its “pass-through” entity status. An LLC is taxed as a pass-through entity by default.
What does this mean? The profits of the business “pass-through” to the owners (or members, in the case of an LLC). The members report profits and losses on individual tax returns, and not at the business level. As a result, it’s a bit easier to file taxes for the members of an LLC. Any losses or operating costs of the business may be deducted on personal tax returns. This helps offset other income.
Tax Designation Flexibility
Incorporating as an LLC also provides entrepreneurs with flexibility. An LLC may elect to be taxed as a corporation, a C Corporation, or an S Corporation.
Of the three, it’s a bit uncommon to file an LLC as a C Corporation tax designation. However, depending on the business this does make financial sense. An LLC may also elect to be taxed as an S Corporation. If the business qualifies as an S Corp, the tax difference between an LLC and S Corp is a bit more nuanced. Both an LLC and an S Corp has flow-through taxation. This means neither entity faces double taxation. However, an LLC’s distribution of profits is subject to an employment tax whereas an S Corp’s dividends are not.
Electing to become an S Corp allows small businesses to avoid significant employment taxes. However, do not rush into making this decision. Approach it with careful planning. Consult a professional, like an accountant or a lawyer. This will help you decide whether you would like to be taxed as an LLC or an S Corporation. While our company cannot offer legal advice, a lawyer may be able to provide fantastic advice as it pertains to structure discussions and conversations around ownership, roles, and taxes within a small business.
Ready to Form an LLC?
You studied the entity formation and consulted a legal professional with additional questions. You are ready to make the leap forward and form an LLC for your business.
Let our team of professionals assist you! Give us a call at 1-877-692-6772 or visit us at mycorporation.com to begin filing the LLC’s paperwork.