What is a limited liability
company (LLC)?
A limited liability company is
an unincorporated business organization that combines the
best aspects of both corporations and partnerships. For this
reason, it is sometimes referred to as a ‘hybrid’ entity.
Its common characteristics include an informal
management/decision-making process,
limited liability for all
owners (a.k.a. ‘members’), temporary or perpetual existence,
charging order protection,
and unparalleled flexibility in choosing its
tax treatment.
Although the LLC has been around for over 100 years in other
countries (such as the German equivalent to the LLC, the Gesellschaft mit beschrnkter Haftung or ‘GmbH’), LLCs have
only been in the US for about 30 years, starting with
Wyoming’s passage of its Limited Liability Company Act in
1977. They were not widely used in the U.S. until the IRS
provided guidance on LLC tax treatment in 1988, and
thereafter issuing the ‘check-the-box’ regulations in 1996
(where an LLC may simply ‘check-the-box’ to elect C
corporation treatment via IRS form 8832 or even S
corporation tax status if it also files IRS form 2553.)
An LLC is
generally the entity of choice for the small to medium sized
business, and even some large businesses, although it must
be noted that some states (such as Alabama,
Florida, California, Kentucky, New Jersey, New York,
Pennsylvania, Tennessee, and Texas) levy a
franchise
or other similar tax
on LLCs. Some of these states’ franchise taxes are very
small, however in other states the tax is significant, and
such tax may sometimes be avoided by instead forming a
limited partnership.
The LLC
vs. the Corporation
The
advantages of an LLC over a corporation are as follows:
-
No need for
annual meetings, minutes, resolutions, or other
corporate
formalities
when making decisions on behalf of the company. In
layman’s terms, this means it’s much less of a hassle to
run the company!
-
There are
generally less ways to
pierce the veil of an LLC than with a corporation.
-
Almost all
states levy a franchise tax on corporations, whereas the
majority of states don’t levy franchise taxes on LLCs.
-
Like limited
partnerships, LLCs benefit from
charging
order protection,
while corporations do not.
-
LLCs may be
taxed as a
disregarded
entity, partnership, C corporation, or S corporation,
while a corporation may only be taxed as a C or S
corporation.
-
In general,
an LLC or limited partnership is usually preferable to a
corporation, unless the company plans on having a public
offering.
-
For an
exhaustive list of pros and cons of corporations vs.
LLCs,
click here.
The
disadvantages of an LLC over a corporation are:
-
Only C
corporations can have a public offering (be traded on
the stock market.)
The LLC
vs. the Limited Partnership
Operationally, an LLC behaves much like a limited
partnership, however it has the following advantages:
-
The manager
of a limited partnership (called a general partner) has
no
limited liability.
All LLC members, whether they manage the company or only
passive investors (a.k.a. ‘limited members’), have
limited liability.
-
A limited
partnership may only be taxed as a … partnership :o) (If
there is only one underlying taxpayer, however, it will
be taxed as a disregarded entity. See
IRS Rev. Rul. 2004-77
for more on this.) An LLC may be taxed as a disregarded
entity, partnership, C corporation, or S corporation.
-
You can form
an LLC with only one member. Limited partnerships need
at least two partners.
The
disadvantages of an LLC over a limited partnership are:
-
In a few
states, you can avoid a state
franchise tax by forming a limited partnership instead of an LLC.
-
There is more
case law regarding limited partnerships than there is
regarding LLCs, which allows us to predict more
accurately how a court will treat a limited partnership
in various situations. However, several landmark cases
regarding LLCs since 2003 have made this almost a
non-issue.
It should
also be noted that, like limited partnerships (a.k.a. ‘family
limited partnerships’),
LLCs can also be used in estate planning to reduce estate
taxes via valuation
discount
techniques.
Related Links:
-
The IRS is
attempting to collect on my assets. Can they get assets
inside my LLC or LP?
-
Should I
use a
trust,
LLC,
limited partnership, or
corporation?
-
What is
charging order protection?
-
What is a
disregarded entity multi-member LLC (DEMMLLC)? Why is it
generally superior to a single member LLC (SMLLC)?
-
Who should
my trust's trustee or company's manager be?
-
What is an
operating agreement? Why is it important?
-
What is an
executory contract?
Why are executory contracts
important in regards to asset protection?
-
How do I
make sure my LLC or LP's operating agreement is an
executory contract?
-
Can an LLC
be 'anonymous'?
-
What are
the
tax consequences of various trust or company
structures?
-
What are
state franchise (and other similar) taxes? How might I
avoid these taxes?
-
What
government forms need to be filed if I stay onshore?
-
How is an
offshore LLC different from an onshore one?
-
What is a
Family Limited Partnership? What is a Family LLC?
Relevant Case Law:
In re: Ehmann
In re:
Ashley Albright
IRS Internal Legal Memorandum 199930013
