A limited liability companies are pregressive entities that can offer liability protection that a sole proprietorship or a partnership can't offer, and a tax advantage not found in a corporation. The LLC has become a popular small business structure in the United States, because it's easy to form, and very flexible in the types of businesses for which it's well suited. The Utah Code has a section devoted only to limited liability companies which is one of the most updated sections of the Utah Code. It is known as the Utah Revised Limited Liability Company Act referenced in Title 48, Chapter 2C, but which transforms into a brand new section July 1,2012,Title 48,Chapter 3. Entity selections, particularly the difference between LLC's and corporations (either S corps, or C corps) are tax driven. CPA's are often involved in the entity selection process. There are certain general characteristics related to LLC's, various advantages, and certain disadvantages that are sketched out below.
Limited Liability
The key advantage of an LLC for small business, given observance of entity formalities, proper capitalization, and adequate insurance, is it protects business owners' personal assets from a company's debts, as would a corporation. In a worst case scenario, an LLC can go bankrupt, and an LLC member, as its owners are called, won't lose his house. But that is a limited protection, as the name applies. If a member uses his house or other assets as collateral for a business loan, those assets are at risk. And if an LLC member is too loose about keeping personal funds and expenses separate from business accounts, a court can rule the separation doesn't exist. If that happens, a member's personal assets may be at risk.
Pass-through Taxation
A corporate structure, particularly a C corporation, can protect personal assets as does an LLC, but it also imposes a double tax on a company's profits. The United States charges a corporation a tax for its entire profits, and then taxes shareholders for the share of the profits received as dividends. An LLC allows members to report their share of the profits on their personal income tax returns without the company itself being taxed.
Flexibility
Depending on the option selected for taxation, the IRS may not recognize an LLC for tax purposes, since it's a business structure regulated by each state. By default, the IRS treats a single-member LLC as a "disregarded entity" or a sole proprietorship, and a multi-member LLC as a partnership in most instances. But LLC members can elect to be taxed as a corporation. This can be an advantage, depending on how profits are distributed, since a sole proprietor's profits or partners' share of the profits are also subject to self-employment tax, while profits distributed as dividends are not. Yet while treated as a corporation for taxes, legally the company remains an LLC. Seek an accountant's advice to determine the advantages of each situation.
Simplicity
A corporation requires a great deal of paperwork in filings, minutes of director meetings and other reports. LLCs avoid most of that paperwork.Corporations are also restrictive on who can be owners.There is no limit on the number of members an LLC can have. Members can be individuals, companies and even other LLCs.
Special Purpose LLCs
LLCs can be formed for a special purpose, such as creation and management of a particular project. Once the project is completed, the LLC disbands. Special purpose LLCs can control real estate projects, or are formed by film production companies to cover the production of a single movie. A special purpose LLC allows investors to put money into a single project by judging the viability of the project itself rather than the long-term profitability of a company.
Corporations have several advantages over LLC's which are explained in other sections of this website, but LLC's also have several advantages over corporations:
Advantages of a limited liability company (LLC) versus a corporation
LLCs have fewer corporate formalities
Corporations must hold regular meetings of the board of directors and shareholders and keep written corporate minutes. Members and managers of an LLC need not hold regular meetings, which reduces complications and paperwork.
LLCs have no ownership restrictions
S corporations have limited amounts of shareholders. Each shareholder must be an individual who is a U.S. resident or citizen. Also, it is difficult to place shares of an S corporation into a living trust. These restrictions do not apply to LLCs (or C corporations).
LLCs have the ability to deduct operating losses
Members who are active participants in an LLC's business can deduct operating losses against their regular income to the extent permitted by law. While S corporation shareholders can also deduct operating losses, C corporation shareholders cannot.
LLCs have tax flexibility
By default, LLCs are treated as a "pass-through" entity for tax purposes, much like a sole proprietorship or partnership. However, an LLC can also elect to be treated like a corporation for tax purposes, whether as a C corporation or an S corporation.
Disadvantages of using an LLC:
* Earnings of most members of an LLC are generally subject to self-employment tax. By contrast, earnings of an S corporation, after paying a reasonable salary to the shareholders working in the business, can be passed through as distributions of profits and are not subject to self-employment taxes.
* Since an LLC is considered a partnership for Federal income tax purposes, if 50% or more of the capital and profit interests are sold or exchanged within a 12-month period, the LLC will terminate for federal tax purposes.
* If more than 35% of losses can be allocated to nonmanagers, the limited liability company may lose its ability to use the cash method of accounting.
* A limited liability company which is treated as a partnership cannot take advantage of incentive stock options, engage in tax-free reorganizations, or issue Section 1244 stock.
* There is a lack of uniformity among limited liability company statutes. Businesses that operate in more than one state may not receive consistent treatment.
* In order to be treated as a partnership, an LLC must have at least two members. An S corporation can have one shareholder. Although all states allow single member LLCs, the business is not permitted to elect partnership classification for federal tax purposes. The business files Schedule C as a sole proprietor unless it elects to file as a corporation.
Some states do not tax partnerships but do tax limited liability companies.
* Minority discounts for estate planning purposes may be lower in a limited liability company than a corporation. Since LLCs are easier to dissolve, there is greater access to the business assets. Some experts believe that limited liability company discounts may only be 15% compared to 25% to 40% for a closely-held corporation.
* Conversion of an existing business to limited liability company status could result in tax recognition on appreciated assets.
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