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- What Does LLC Mean? Everything You Need to Know About This Business Structure
What Does LLC Mean? Everything You Need to Know About This Business Structure
“LLC” is a term you may often see as part of a company’s official name. But have you ever wondered what exactly it stands for? The abbreviation LLC, along with its synonyms such as L.L.C., LC, L.C., limited company, limited liability co., and Ltd. liability company, indicates that a business is formed as a limited liability company rather than a sole proprietorship, partnership, corporation, or any other type of company.
If you’re on the hunt for the most suitable business structure for your newly established company or growing sole proprietorship and need answers to questions like what does LLC mean for a business and how does it work, keep reading this article.
Understanding the Concept of Limited Liability Companies
An LLC is a type of business entity you can form by filing the necessary paperwork in the state where you intend to conduct your business. The regulations surrounding limited liability companies may vary slightly from state to state.
Owners of an LLC are generally called members. An LLC can have just one owner (a single-member LLC) or many owners (a multiple-member LLC). While there are no differences in how single-member and multiple-member limited liability companies run their business, there is a difference in how these two LLC types are taxed. States impose few restrictions when it comes to LLC ownership. Members can be individuals, corporations, other LLCs, and even foreign individuals and business entities, making it an extremely flexible option regardless of your circumstances.
However, depending on the nature of your business, you may not be able to start an LLC. For example, an entity such as a bank or an insurance firm generally cannot be structured as a limited liability company. Despite these restrictions, though, the LLC is America’s fastest-growing business designation type, with more than 2.4 million US businesses identifying themselves as limited liability companies nowadays.
So, what is it that makes the concept of an LLC so appealing to American entrepreneurs? Not only is this business structure easy to set up, but also it provides a high level of flexibility and protection to its owners (members). In many cases, opting for an LCC represents the best of both worlds.
A limited liability company, by definition, protects its owners from being held personally liable for the company’s debts. In other words, if a creditor goes after the LLC’s assets, members may lose the money they invested in the company, but their personal assets - such as real estate, vehicles, bank accounts, heirlooms, and investments - won’t be at risk. However, if the company fails to meet legal and reporting requirements or fraud is detected, the corporate veil protecting the members may be lifted, allowing the creditors to go after them.
Another reason why many entrepreneurs opt for setting up an LLC is that this business type can choose not to pay federal taxes. Thanks to flow-through or pass-through taxation benefits, the profits and losses of an LLC can be passed through to members and listed on their individual tax returns. Alternatively, an LLC can choose a different classification and be taxed as a corporation.
Let’s take a look at some of the most apparent differences and similarities LLCs share with corporations and partnerships, the two business structure types limited liability companies are often confused with.
LLC vs. Corporation
The main difference between a limited liability company and a corporation is that corporations are owned by their shareholders, while an LLC is owned by one or more individuals or business entities. An LLC structure is governed by a written or oral operating agreement that identifies the way the company will be run, the way profits will be shared, and the roles of the members. However, limited liability companies are very flexible when it comes to the specifics of these agreements. On the contrary, corporations have a much more rigid structure of directors, officers, and shareholders.
As far as maintenance goes, corporations need to organize annual shareholder meetings to maintain their status. On the other hand, LLCs aren’t required to hold annual meetings, keep minutes, or even have a board of directors.
Taxation flexibility is among the main reasons why entrepreneurs choose to set up an LLC. Corporations pay corporate income tax on profits and their shareholders also pay income taxes on the profits they receive as dividends (C corps). In some cases, corporations may qualify to avoid double taxation by passing through the profits to shareholders’ personal tax returns (S corps). In contrast, limited liability companies are pass-through entities by default. However, their full range of taxation options includes the models of a sole proprietorship, partnership, S corporation, or C corporation.
Creating an LLC or a corporation lets you make the most of liability protection from the company’s obligations. While both business entity types offer the limited liability feature, corporations are favored by businesses that intend to seek outside investment, while an LLC is a smart choice for startups and small, owner-managed companies that need flexibility and want to avoid excessive corporate formality.
LLC vs. Partnership
When two or more people decide to go into business together, they don’t need to file any paperwork to officially form a business entity - the partnership is created automatically. On the contrary, forming an LLC requires filing articles of organization with the state the company plans to do business in and complying with any additional state filing rules.
In addition to these formation disparities, partnerships and LLCs also differ when it comes to personal liability. While corporations and limited liability companies offer liability protection from the business’s creditors to their shareholders/members, partnerships and sole proprietorships do not. In other words, partners can lose their personal assets if their company gets sued or falls into debt.
So, is an LLC similar to a partnership in any way? Yes, it is. Both limited liability companies and partnerships offer the benefits of pass-through taxation, which means that there are no corporate taxes to worry about, as business owners report the company’s profits and losses on their individual tax returns. Moreover, as far as tax benefits go, both LLCs and partnerships qualify for the 20% pass-through deduction according to the Tax Cuts and Jobs Act.
Forming an LLC
Should you decide to form an LLC after comparing this business structure with corporations and partnerships, note that you’ll be presented with two options; you can either form an LLC yourself or hire an LLC service company to help you with the procedure. Additionally, you can also consult with a lawyer or an online legal service company if you need help with any legal matters.
No matter which approach you decide to opt for, you’ll need to take a few simple steps:
- Choose your state of formation. This can be the state you live, but it must be the state you intend to conduct the business in.
- Pick a name for your business. Your LLC’s name must be unique in your state. We’ve already answered the question “what does LLC mean?” However, now we need to add that this abbreviation or any of its variations must form a part of your company’s formal name.
- Appoint a registered agent. A registered agent or an agent for service of process is a person or company that deals with all official correspondence such as legal summons and document filings for your company.
- File your LLC with the state. To officially create your limited liability company, you’ll need to file your formation document (usually referred to as articles of organization) with your Secretary of State’s office.
- Create an LLC operating agreement. Although this step isn’t officially required by most states, we still suggest you create an operating agreement for your LLC. This document can either be written or oral, and its main purpose is to outline the member roles and ownership structure of your company.
- Get an EIN. After completing your formal LLC creation, you’ll need to apply for an Employer Identification Number if you want to open a business bank account and hire employees.
The most apparent disadvantages of an LLC are related to the potentially high formation and maintenance fees, the restrictions on limited liability protection that can result in the corporate veil falling, and inflexibility when it comes to changing the ownership structure.
The list of reasons why entrepreneurs decide to form their companies as LLCs is quite lengthy and includes liability protection, pass-through taxation, flexible membership and management, enhanced credibility, and limited compliance requirements. Some of these features can also be found in other business structure types, such as corporations or partnerships. However, LLCs are unique in that they offer the best of both worlds for small, owner-managed businesses.
So, what does LLC mean and how can this business structure protect you? One of the most important benefits of a limited liability company is that it offers a liability shield to its owners. In other words, should a business get sued or fall into debt, its owners won’t be held liable and their personal assets won’t be at risk of collection.
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