Many who are looking to start a new business want to know whether to form a Limited Liability Company (LLC) or a Corporation (s Corp or C Corp). They want to know which one is best, which one will save them money, which one will give them the best tax breaks, which one will give them the best assest protection and which one will make them money.
The answer depends on what kind of business it is and how the business owner would like to arrange his/her tax liabilities and the other realities that come with business ownership and operation.We can start our discussion by looking at a partnership. This is a common form of business arrangement because it doesn’t take a whole lot of paperwork to arrange, and is often formed inadvertently due to lack of proper filing or even ignorance. A partnership is nothing more than a voluntary association between two or more people who agree to collectively own and operate a business. Each partner is proportionally responsible for all of the profits, losses, liabilities, and other happenings of the business. It is simple to arrange, but offers little in the way of protection from personal liability for the individual partners.This is why corporations and LLCs are beneficial: they offer differing levels of protection against personal liability.
Corporations
Corporations are an excellent way to protect owners against personal liability for losses and taxes, because they function as separate legal entities. More than just a legal entity, corporations are recognized as legal persons that can own property, file taxes, sue, be sued, sign contracts, and exist apart from its owners. This is beneficial for the owners of a corporation because all liabilities are applied to the corporation itself and are not passed on to the individual owners.The owners of a corporation are those who own shares of the corporation. Since a corporation pays taxes on its profits as though it were a person and is individually liable for losses, the shareholders are protected against these things. However, when the profits are passed on to the shareholders in the form of dividends, the individual stockholders are responsible to pay taxes on these. This is both a benefit because the corporation is responsible for its own profits and losses, and a detriment because taxes are paid twice (once by the corporation for profits and once by the shareholder for dividends).Corporations offer huge benefits because of liability protection, but this comes at a certain price. The price is the observance of corporate formalities. These formalities include holding annual meetings, keeping minutes of meetings, submitting annual reports, appointing directors and officers, and issuing stock. These formalities must be observed regardless of the number of shareholders. If not, then the “corporate veil” could be pierced and the shareholders could be found personally liable for the corporation’s debts.
Limited Liability Company
An LLC fits somewhere between a partnership and a corporation. It offers liability protection similar to a corporation, but has operational and tax advantages similar to a partnership. Generally, the owners of an LLC, which are referred to as members, are not liable for the debts or obligations of the company. This offers a level of liability protection similar to a corporation. However, the members are responsible for the profits and losses of the LLC since they pass straight through to them in a similar manner to partnerships. Another benefit to LLCs, beyond the liability protection, is the ease of maintenance. There are fewer paperwork filing and record keeping requirements. For example, LLCs do not need to keep minutes of meetings or file annual reports. There is also the ability for LLC owners to decide how they wish to allocate their profits and losses unlike the allocation of dividends based on share ownership for corporations.The way an LLC is taxed can get tricky depending on the state where it is formed since some states recognize LLCs as sole-proprietorships or partnerships. Still other states allow an LLC to choose how it is taxed which offers some flexibility. The flexibility and state specific rules for taxation can be both a benefit and a detriment to choosing this business form.
Conclusion
Both corporations and LLCs offer liability protection and ways of arranging profits and losses that can be more beneficial than plain partnerships. In making the decision as to which would best suit a business’s needs, some factors need to be weighed such as whether stock will be issued publicly, how tax liability will be dealt with, and how much organizational maintenance is manageable.Each state has its own laws governing these business formations and there can be subtleties in how they are formed and how they function. It is recommended to seek the advice of an attorney or accountant for specific questions about a business formation and how it could affect a new business owner.
