Financial Literacy

What is a Limited Liability Company (LLC)?

When they incorporate, many businesses form as Limited Liability Companies (LLCs). An LLC is a corporate structure that’s a separate entity from the person(s) forming it. It also requires the owners to report the company’s profits and losses on their personal income tax returns. However, the owners cannot be personally held liable for the company’s losses or debts. As the name suggests, it’s a way to limit the liability founders may face in the event of bankruptcy or other hardship for the company. 

LLCs serve a number of purposes; however, they’re always used as a way to legally protect the person forming one. You might form an LLC to start a business, hold assets or create a trust. Regardless of the reason, the Limited Liability Company represents a barrier between the business’ assets and operations and personal assets and accountability. It’s a must-have legal structure for anyone seeking to engage in a venture separate from their personal purview. 

A Limited Liability Company LLC is a safeguard for owners

The Chief Benefits of an LLC

Far and away the biggest benefit of forming an LLC is the separation of personal and professional assets. The Limited Liability Company safeguards founders against anything that may threaten their personal wealth or assets, including business bankruptcy or legal action resulting in asset forfeiture or asset liquidation. 

As a pass-through entity, there’s also much less tax complexity associated with a Limited Liability Company. Business owners don’t need to worry about the double taxation that can come with other business structures. Instead, they simply file their taxes with the pass-through income and pay income tax accordingly. It makes operating with financial transparency much easier for business owners who may not have financial savvy. 

The ease of establishing an LLC is also a boon to business owners. There are very few barriers to entry in forming a Limited Liability Company, and the cost of maintaining one is nominal. It’s an accessible business structure for anyone seeking to create a venture. 

LLC vs. Corporations and Other Business Structures

There tends to be a lot of confusion in differentiating between a Limited Liability Company and other business structures, including corporations. Here’s a look at some of the hallmarks of each type of business and how they differ from each other. 

Limited Liability Companies

The demands of an LLC are much more lenient and less rigid than those of other business structures. A Limited Liability Company doesn’t need to elect a board of directors or hold board meetings, or even keep records of meetings. As pass-through entities, they’re not subject to double taxation. They can also distribute profits in whichever way makes the most sense for owners. They’re a flexible business structure for just about anyone. 

Corporations (S-Corp and C-Corp)

While there are subtle differences between different corporate structures, there’s a world of difference between corporations and LLCs. The biggest is that they’re subject to double taxation. Corporations are not pass-through entities, which means profits get taxed at the business level; then, owners pay personal income taxes. Along with this, there are rules about how a corporation can issue shares and distribute profits among shareholders. Corporations are also subject to stringent recordkeeping and governance standards. 

Sole Proprietorships and Partnerships

These options aren’t necessarily incorporated, but exist within frameworks that provide legal guidance and stipulations for those forming them. Unlike LLCs, these entities do not provide a buffer between personal and business assets and liabilities, which makes them riskier. Owners and partners take full responsibility for all business debts and losses. They’re often a stepping stone into incorporation.  

There are other types of legal business structures and entities; however, these are the most common. Note that public companies are all corporations, while private companies can be a Limited Liability Company, corporations or proprietorships. Often, the delineating factor for public companies has to do with share structure and equity distribution among shareholders. 

How to Form an LLC

Forming a Limited Liability Company is something anyone can do. Individuals can form a Limited Liability Company in any state, and each state has its own requirements for formation as well as renewal. Generally, the process of forming a Limited Liability Company is relatively straightforward and similar across all states:

  • Select the state you want to file in and observe its filing requirements
  • Name your Limited Liability Company to ensure it’s registered under the right business name
  • Choose a registered agent: the person responsible for managing the LLC
  • File the Limited Liability Company paperwork with the state and pay the nominal filing fee
  • Create and submit an LLC operating agreement to legitimize your LLC
  • Get an Employer Identification Number (EIN) to file your Limited Liability Company tax paperwork

There are single- and multi-member LLCs, depending on the number of people involved in the formation. Single-member Limited Liability Company features just one founder and controlling individual; multi-member LLCs typically represent a group of founders, each with a controlling interest. 

A Safeguard Against Creditors

Far and away the biggest benefit to forming an LLC is the protection it provides against creditors. If the business goes bankrupt or faces legal action as the result of liability, the business owner(s) is safe behind the Limited Liability Company. The business itself may lose all of its assets to liquidation and debt repayment, but your personal assets will remain untouched. 

And as an investor, it’s important to have an understanding of these safeguards and business practices. In fact, it can help you build wealth through smart investments. To learn more, sign up for the Liberty Through Wealth e-letter below!

An LLC is simple enough for anyone to establish, and the structure of limited liability companies makes them easy to understand. They’re a great foray into a new business venture or an investment situation, as a hedge against risk. The most difficult part is often picking a name!


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