What Is an LLC?

llc contract

An LLC, or limited liability company, is a business structure that combines elements of a partnership, sole proprietorship, and a corporation. They greatly appeal to small business owners because of how the business’s taxes are reported, its management structure, and its limited personal liability.

LLC Tax Reporting

As the owner of an LLC, the profits and losses of your business are reported on your personal income tax return. If the LLC is co-owned by multiple members, each member has to pay taxes on their share of the profits. This is because an LLC is not seen as a separate taxable entity. It’s what the IRS calls a “pass-through entity,” which is to say the business’s income passes through the company to the LLC member(s).

Although the business’s income is not directly taxed, the IRS still requires LLC members to file a Form 1065 each year. This is an informal return where LLC members layout how the business’s profits or losses were shared amongst the members. It’s seen as more of a precautionary measure to ensure that everyone is correctly reporting his or her income.

LLC Management Structure

In the case of most LLCs, members carry out the operating decisions of the business. The rights, responsibilities, and profit shares of members are laid out in the business’s operating agreement. This differs greatly from a corporation, which uses stock ownership to determine the distribution of gains and losses. With a more rigid management structure, the decision-making power and profit shares of an LLC are less likely to change.

An alternative to the “member management” structure is the “manager management” structure. This awkwardly sounding arrangement designates one or more owners (or even an outsider) to manage the LLC. In this case, non-managing owners still collect a share of the profit, but do not have direct decision-making power.

Limited Liability

The limited liability aspect of an LLC is what makes it most similar to a corporation. With limited liability, LLC owners are protected from being personally liable for the business’s debts and claims. So if the business can’t pay its creditors, they can’t legally go after LLC members’ personal property for repayment. However, there are some exceptions to limited liability.

LLC owners can be held liable for:

  • Personally guaranteeing a bank loan or a business debt on which the LLC defaults
  • Failing to deposit taxes withheld from employees’ wages
  • Intentionally doing something fraudulent, illegal, or reckless that causes harm to the company or to someone else
  • Treating the LLC as an extension of the owners’ personal affairs, rather than as a separate legal entity

How to Form an LLC

Creating an LLC requires you to fill out your “articles of organization,” a document that outlines the initial statements of the LLC. These statements include the business’s name, address, the owner’s contact information, and the like. The document is then filed with the LLC division of your state government, which is usually part of the secretary of state’s office. There will likely be a fee associated to the filing as well, ranging from $100 to $800.

Next, an operating agreement must be created. Even though it doesn’t need to be filed with the LLC filing office, it is vitally important to the success of your business as it sets the rules of ownership and operation.

Some states will require you to publish a notice in your local newspaper, stating that you intend to form an LLC. It may be required that the notice be published several times over a period of weeks, followed by the submission of an “affidavit of publication” to the LLC filing office.

Once all of this has been taken care of, you need to obtain the appropriate licenses and permits required for your business to operate. Once you’ve done all of that, you’re ready to start your business.

For more information about how Sparks Law can help you with the formation of your LLC, please see our Limited Liability Company page, and feel free to give us a call if you have any questions. As always, we are off the clock and on your side!