Limited Liability Company[1]

 

A limited liability company (LLC) is the U.S.-specific form of a private limited company. It is a business structure that combines the pass-through taxation of a partnership or sole proprietorship with the limited liability of a corporation.  An LLC is not a corporation; it is a legal form of a company that provides limited liability to its owners in many jurisdictions. LLCs do not need to be organized for profit.  In certain U.S. states, (Texas for example) businesses that provide professional services requiring a state professional license, such as legal or medical services, may not be allowed to form an LLC but may be required to form a very similar entity called a Professional Limited Liability Company (PLLC).

 

A Limited Liability Company (LLC) is a hybrid business entity having certain characteristics of both a corporation and a partnership or sole proprietorship (depending on how many owners there are). An LLC, although a business entity, is a type of unincorporated association and is not a corporation. The primary characteristic an LLC shares with a corporation is limited liability, and the primary characteristic it shares with a partnership is the availability of pass-through income taxation. It is often more flexible than a corporation, and it is well-suited for companies with a single owner.

 

In the absence of express statutory guidance, most American courts have held that LLC members are subject to the same common law alter ego piercing theories as corporate shareholders. However, it is more difficult to pierce the LLC veil because LLCs do not have many formalities to maintain. So long as the LLC and the members do not commingle funds, it would be difficult to pierce this veil.

 

Membership interests in LLCs and partnership interests are also afforded a significant level of

The limited liability company ("LLC") has grown to become one of the most prevalent business forms in the entire United States. Wyoming was the first US state to define LLCs in law in 1977. All fifty states now allow for some form of the LLC business structure. As the LLC's popularity has swelled, unforeseen issues have emerged in these new statutes, particularly around single-member LLCs, in Florida, New York, California, Colorado, and Georgia, where personal asset protection has been subverted.

 

Effective August 1, 2013, the Delaware Limited Liability Company Act provides that the managers and controlling members of a limited liability company owe fiduciary duties of care and loyalty to the limited liability company and its members. Under the amendment (prompted by the Delaware Supreme Court's decision last November in Gatz Properties, LLC v. Auriga Capital Corp), parties to an LLC remain free to expand, restrict, or eliminate fiduciary duties in their LLC agreements (subject to the implied covenant of good faith and fair dealing).

 

Income tax

For U.S. federal income tax purposes, an LLC is treated by default as a pass-through entity.

 

If there is only one member in the company, the LLC is treated as a “disregarded entity” for tax purposes, and an individual owner would report the LLC's income or loss on Schedule C of his or her individual tax return. Thus, income from the LLC is taxed at the individual tax rates. The default tax status for LLCs with multiple members is as a partnership, which is required to report income and loss on IRS Form 1065. Under partnership tax treatment, each member of the LLC, as is the case for all partners of a partnership, annually receives a Form K-1 reporting the member's distributive share of the LLC's income or loss that is then reported on the member's individual income tax return. On the other hand, income from corporations is taxed twice, once at the corporate entity level and again when distributed to shareholders, thus more tax savings often results if a business formed as an LLC rather than a corporation.

 

An LLC with either single or multiple members may elect to be taxed as a corporation through the filing of IRS Form 8832. After electing corporate tax status, an LLC may further elect to be treated as a regular C corporation (taxation of the entity's income prior to any dividends or distributions to the members and then taxation of the dividends or distributions once received as income by the members) or as an S corporation (entity level income and loss passes through to the members). Some commentators have recommended an LLC taxed as a S-corporation as the best possible small business structure. It combines the simplicity and flexibility of an LLC with the tax benefits of an S-corporation (self-employment tax savings).

 

Advantages

·        Choice of tax regime. An LLC can elect to be taxed as a sole proprietor, partnership, S corporation or C corporation (as long as they would otherwise qualify for such tax treatment), providing for a great deal of flexibility.

·        A limited liability company with multiple members that elects to be taxed as partnership may specially allocate the members' distributive share of income, gain, loss, deduction, or credit via the company operating agreement on a basis other than the ownership percentage of each member so long as the rules contained in Treasury Regulation (26 CFR) 1.704-1 are met. S corporations may not specially allocate profits, losses and other tax items under US tax law.

·        Limited liability, meaning that the owners of the LLC, called "members", are protected from some or all liability for acts and debts of the LLC depending on state shield laws.

·        Much less administrative paperwork and record keeping than a corporation.

·        Pass-through taxation (i.e., no double taxation), unless the LLC elects to be taxed as a C corporation.

·        Using default tax classification, profits are taxed personally at the member level, not at the LLC level.

·        LLCs in most states are treated as entities separate from their members. However, in some jurisdictions such as Connecticut, case law has determined that owners were not required to plead facts sufficient to pierce the corporate veil and LLC members can be personally liable for operation of the LLC

·        LLCs in some states can be set up with just one natural person involved.

·        Less risk to be "stolen" by fire-sale acquisitions (more protection against "hungry" investors).

·        For real estate companies, each separate property can be owned by its own, individual LLC, thereby shielding not only the owners, but their other properties from cross-liability.

 

Disadvantages

·        Although there is no statutory requirement for an operating agreement in most jurisdictions, members of a multiple member LLC who operate without one may run into problems. Unlike state laws regarding stock corporations, which are very well developed and provide for a variety of governance and protective provisions for the corporation and its shareholders, most states do not dictate detailed governance and protective provisions for the members of a limited liability company. Thus, in the absence of such statutory provisions, the members of an LLC must establish governance and protective provisions pursuant to an operating agreement or similar governing document.

·        It may be more difficult to raise financial capital for an LLC as investors may be more comfortable investing funds in the better-understood corporate form with a view toward an eventual IPO. One possible solution may be to form a new corporation and merge into it, dissolving the LLC and converting into a corporation.

·        Many jurisdictions, including Alabama, California, Kentucky, New York, Pennsylvania, Tennessee, and Texas, levy a franchise tax or capital values tax on LLCs. (Beginning in 2007, Texas has replaced its franchise tax with a "margin tax".) In essence, this franchise or business privilege tax is the fee the LLC pays the state for the benefit of limited liability. The franchise tax can be an amount based on revenue, an amount based on profits, or an amount based on the number of owners or the amount of capital employed in the state, or some combination of those factors, or simply a flat fee, as in Delaware. Effective in Texas for 2007 the franchise tax is replaced with the Texas Business Margin Tax. This is paid as: tax payable = revenues minus some expenses with an apportionment factor. In most states, however, the fee is nominal and only a handful charge a tax comparable to the tax imposed on corporations. In California, both foreign and domestic LLCs, corporations, and trusts, whether for-profit or non-profit - unless the entity is tax exempt, must at least pay a minimum income tax of $800 per year to the Franchise Tax Board; and no foreign LLC, corporation or trust may conduct business in California unless it is duly registered with the California Secretary of State.

·        The District of Columbia considers LLCs to be taxable entities, thus eliminating the benefit of flow-through taxes by subjecting members to double taxation.[12] Typically, LLCs will choose to be taxed as a partnership to avoid double taxation, which occurs in corporations. This allows companies to distribute their income among members who then report it on their personal tax returns.

·        Renewal fees may also be higher. Maryland, for example, charges a stock or nonstock corporation $120 for the initial charter, and $100 for an LLC. The fee for filing the annual report the following year is $300 for stock corporations and LLC, and zero for non-stock corporations. In addition, certain states, such as New York, impose a publication requirement upon formation of the LLC which requires that the members of the LLC publish a notice in newspapers in the geographic region that the LLC will be located that it is being formed. For LLCs located in major metropolitan areas (e.g., New York City), the cost of publication can be significant.

·        The management structure of an LLC may be unfamiliar to many. Unlike corporations, they are not required to have a board of directors or officers. (This could also be seen as an advantage to some.)

·        Taxing jurisdictions outside the US are likely to treat a US LLC as a corporation, regardless of its treatment for US tax purposes, for example if a US LLC does business outside the US or a resident of a foreign jurisdiction is a member of a US LLC.[13]

·        The principals of LLCs use many different titles—e.g., member, manager, managing member, managing director, chief executive officer, president, and partner. As such, it can be difficult to determine who actually has the authority to enter into a contract on the LLC's behalf.

·        A potential disadvantage specific to the United States is that LLCs are not considered to be corporations for the purposes of federal civil procedure; they are instead treated as partnerships. This affects the applicability of diversity jurisdiction in cases involving LLCs, barring application of diversity jurisdiction when even one member of the LLC is a citizen of the same state as one of the opposing parties. Should one member of an LLC be a citizen of a state of which one of the opposing parties is a citizen, any case between the LLC and those parties must be heard in that state's courts; corporations enjoy a more complete legal personhood that only denies diversity jurisdiction when the opposing party is a citizen of the state in which the corporation is incorporated (most commonly Delaware for large corporations, which has a small population) or has its principal place of business.

 

Variations

·        A Professional Limited Liability Company (PLLC, P.L.L.C., or P.L.) is a limited liability company organized for the purpose of providing professional services. Usually, professions where the state requires a license to provide services, such as a doctor, chiropractor, lawyer, accountant, architect, landscape architect, or engineer, require the formation of a PLLC. However, some states, such as California, do not permit LLCs to engage in the practice of a licensed profession. Exact requirements of PLLCs vary from state to state. Typically, a PLLC's members must all be professionals practicing the same profession. In addition, the limitation of personal liability of members does not extend to professional malpractice claims.

·        A Series LLC is a special form of a Limited liability company that allows a single LLC to segregate its assets into separate series. For example, a series LLC that purchases separate pieces of real estate may put each in a separate series so if the lender forecloses on one piece of property, the others are not affected.

·        An L3C is a for-profit, social enterprise venture that has a stated goal of performing a socially beneficial purpose, not maximizing income. It is a hybrid structure that combines the legal and tax flexibility of a traditional LLC, the social benefits of a nonprofit

 



[1] Limited liability company. (2015, January 19). In Wikipedia, The Free Encyclopedia. Retrieved 22:34, January 25, 2015, from http://en.wikipedia.org/w/index.php?title=Limited_liability_company&oldid=643167465