If you’re just starting a business or even if you’ve been in business for several years operating as a sole proprietor, forming a limited liability company (LLC) may be the best business decision you make.
You may be wondering what an LLC is and what are the advantages to forming this special legal structure. The LLC is a business structure that combines the pass-through taxation of a partnership or sole proprietorship with the limited liability of a corporation. LLCs share many of the same qualities as an S-Corp or C-Corp while enjoying more flexibility and requiring less paperwork.
There are many reasons to form a limited liability company, but these are the four major reasons to start an LLC:
One of the most important reasons to form an LLC is for liability protection. With an LLC, members and owners aren’t personally liable for the company’s debts or obligations. The only thing members and owners are responsible for is the amount of money they personally invest in the business. Personal assets typically are not at risk for the debts and liability of the business.
For example, if an LLC is forced into bankruptcy, the owners will not be required to pay the LLC’s debts with their own personal money. If the assets of the LLC are not enough to cover the debts and liabilities, the creditors generally cannot look to the owners or members for relief.
Many small business owners create an LLC business structure to separate their business assets from their personal assets. By having an LLC, any lawsuits directed towards the company will not affect the business owner’s personal assets.
If a company is simply running as a sole proprietor or a general partnership, the business owners open themselves up to having all of their personal assets taken in a lawsuit. Existing and unrealized personal assets are all at risk in the event of an unfavorable judgment. By not separating your personal and business assets, a catastrophic lawsuit could wipe out everything you and the business owns. By forming an LLC, you can take the burden off your shoulders knowing that your personal assets cannot be targeted in the event of a business lawsuit.
LLCs are great for helping your business save on taxes. Typically, an LLC does not pay taxes at the business level. Income and loss are reported on the owners’ personal tax returns, and any tax due is paid at the individual level. By default, an LLC is taxed as a pass-through entity, where the owners just pay taxes on the profits of the LLC at their individual tax rates.
Many startups and small businesses often create an LLC because they help avoid double taxation. Double taxation usually occurs when an entrepreneur chooses a C-Corp business structure, so the company and the owner are both taxed separately. Forming an LLC prevents this because it is taxed more like a sole proprietorship.
Lastly, by forming a limited liability company, you will give your business instant credibility. Once the LLC is formed, you’ll be able to add “LLC” to the end of your company name. Consumers may not know the difference between sole proprietorships and limited liability companies, but once they see an LLC after a company name, they know that the business is credible and professional.
The LLC will also bring credibility to your business by protecting your business name from competitors. In most states, other businesses may not form an entity or use a trade name that is the same as your corporate name. This will help you as you begin to build the brand for your business.
Forming an LLC might not be the first thing on your mind as you start your business. However, by doing your research ahead of time and forming your business entity, you can avoid potential problems in the future. As you form the LLC and have questions, be sure to seek legal advice so that you start your business on the right foot.