Anybody interested in starting a new business, or in formalizing the organization of an existing sole proprietorship, should pay careful attention to the entity selection decisions they will need to make. An experienced business law attorney can guide you through the considerations that will affect your decision to form a C corporation, an S corporation, a limited liability company (LLC), any form of partnership, or stay with a sole proprietorship in your own name.
Though they are relatively new in the United States, LLCs have emerged as a highly popular and flexible way of organizing a new business entity. Virtually unknown in this country 40 years ago, LLCs can be formed today in every state, and in some industries, they represent the standard form of business organization.
Flexibility and Ease of Formation
Although the details vary from state to state, an LLC combines certain features of the business partnership and the business corporation. The personal liability of an LLC’s members is protected in much the same way that a corporation shelters its shareholders from liability. Unlike corporations, however, most LLCs are taxed on a pass-through basis to its individual members. In other words, the LLC pays no taxes on its profits, but each member pays income tax on his or her share.
Perhaps the main advantage of the LLC is its flexibility in organization and management. Corporations and partnerships alike are free to vary many of the state laws related to corporate and partnership governance through corporate bylaws and partnership agreements, but the level of default statutory regulation applicable to LLCs is very limited. An operating agreement defines the rights and responsibilities of the membership, and creating an LLC is as simple as filing a certificate of organization (Pennsylvania) or certificate of formation (New Jersey) together with a modest filing fee.
Unlike corporations, LLCs are not managed by boards of directors with specific duties and responsibilities. Instead, the management functions of an LLC are spelled out in the operating agreement. When the LLC has more than one member, the operating agreement can also spell out details as to the transferability of interests, rights of first refusal and restrictive covenants with respect to proprietary information, customer lists and noncompetition terms.
Tax Election Options for LLCs
Some entrepreneurs or existing businesses might find the tax characteristics of an LLC to be disadvantageous. Because the LLC itself is not taxed, distributions to members are taxed as ordinary income to the individuals. For most startups, however, this will represent no practical difference from self-employment tax. LLCs can also elect to be taxed in any of several ways: sole proprietorship, S corporation, or if there are multiple members, as a C corporation or partnership. LLCs seeking corporate tax treatment can set up a Simple IRA retirement plan and pay themselves a reasonable salary to reduce some of their self-employment tax that they would incur as a sole proprietorship.
When the primary impetus for organizing as an LLC is to shelter personal assets from business liability, the limited liability company form is hard to beat. Many real estate companies, property investment and management firms set up a separate LLC for each building, to ensure that the tort or contract liability for each project is contained to the asset value of that property. The LLC elect to be taxed as partnerships are taxed with the general partner organized as a corporation or another LLC.
Contact Spadea & Associates, LLC in Ridley Park: 610-521-0604
Any business entity selection and formation decision should be based on your own personal and business objectives, needs and characteristics. The Law Offices of Spadea & Associates works with business owners and entrepreneurs in Greater Philadelphia, southeastern Pennsylvania and South Jersey on matters of business law, tax law and estate planning. To learn more about the ways an LLC could meet your objectives in Pennsylvania or New Jersey, contact us in Ridley Park.