Forming Limited Liability Companies (LLC’s)

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The Limited Liability Company or LLC as it is better known has been one of the most popular business entity structures during the past 50 years. The LLC is the convenient hybrid of a partnership and a corporation and benefits form some of the most favorable aspects of both. LLCs limit the liability of their owners while giving them flexible management power and the ability to choose the business’s tax treatment. 

Unlike a general partnership, and more closely related to a corporation, the LLC must follow a series of rules for an effective formation, the failure to correctly follow these rules may prevent the attempted LLC from conducting business or protecting its owners from liability. 

An LLC is formed when articles of organization are filed with the Secretary of State (or if the articles so provide, the LLC will be formed on a later date no more than 90 days from the date of filing.) Articles of organization are functionally similar to a partnership’s articles of organization or a corporation’s articles of incorporation. An LLC has very limited power to conduct business before filing its articles of organization, except it may perform some limited prefiling organizational activities which might include some real estate transactions that will be assigned to the soon to be valid LLC. Despite the very limited exception, a soon-to-be-formed LLC generally may not incur debt prior to formation. However, the organizers of the LLC may incur debt on behalf of the soon-to-be-formed LLC and engage in other business, though they will be liable for any debts and liabilities incurred. After formation the LLC may through express agreement, assumption, or novation accept the liability of its organizers for the contracts and other liabilities incurred during its formation. 

Articles of Organization-

The LLC’s articles of organization must include fundamental information concerning the LLC, including the name of the LLC, the Purpose of the LLC, the name and address of the LLC’s registered agent and registered office, if it will be manager-managed then it must include a statement specifying such, the events or conditions that will result in the termination of the LLC, and the name and address of each organizer. The articles must be signed and filed by only one person, though that person does not need to be a member or manager of the LLC and may be an unnatural person like a partnership or LLC. In addition to the article of organization, the filer must submit a filing fee which differs from state to state. 

After filing but before actually conducting business, the LLC must have an operating agreement. An operating agreement is an agreement, written or oral, between all the members, or a written declaration by the sole member, that addresses the conduct of the business and affairs of the LLC and the rights, duties, and obligations of the members or managers. I have said it before but it bears repeating, an oral agreement may suffice but a written agreement may be wiser and can be required in some circumstances. Because operating agreements may be oral they seldom must be submitted along with or after filing paperwork, which means some states may not have a deadline for the adoption of an operating agreement or provide consequences for the failure to adopt an operating agreement. Practically speaking adoption of an operating agreement should happen simultaneously with filing.

Broad discretion is given as to what provisions will be included in an operating agreement. However, in the absence of an on-point clause or provision, state law acts as a gap filler and supplies default rules that apply to the LLC. These default rules are seldom advantageous to the members and may inhibit the intended business, so members should carefully review and address the issues covered by state default rules. 

Operating agreements often address many of the same issues that are covered in corporate bylaws. shareholder agreements, or partnership agreements. Because of the hybrid nature of LLCs and their flexibility, the form and contents of operating agreements may vary greatly depending on the specific facts and circumstances involved in the particular business venture. Despite the wide variation, an LLC’s operating agreement should address information or provisions relating to the members of the LLC including initial and additional capital contributions or loans; percentage/units/other measures of ownership interests; allocations of income and loss; tax treatment; distributions of cash at intervals or liquidation; business purpose; management rights and powers (including election or selection of managers, authority or restrictions of authority, meeting and related procedural requirements, indemnification; and transactions involving conflicts of interest); rights or restrictions on competing activities; accounting; rights or restrictions on new membership or transfers of interests; events of withdrawal of a member; dissolution and liquidation; amendment of the operating agreement; and other relevant organizational and operational issues. 

Operating agreements may be modified at any time by following the provisions provided in the original operating agreement or if none exist then by following the requirements of state law. Operating agreements are typically modified when there has been a substantial change in circumstances or business that was not anticipated by the original operating agreement so that the original operating agreement does not address the changed responsibilities, business operations, or property contributions. Generally, all the members should sign an amended operating agreement and the amendment should include language that indicates that it amends or modifies the original agreement. In the alternative, aka the less messy and prone to error solutions, the partners can execute a new operating agreement that includes language indicating it replaces the previous operating agreements and is the final and complete iteration of the operating agreement. 

Amending the Articles of Organization

Once filed the articles of organization must be amended in certain circumstances and may be amended in others. Amended articles are required within 60 days of a change from a member-managed to a manager-managed LLC (or vice-versa), after a change in the LLC’s name, or after a change in the dissolution date of the LLC. Articles of organization may otherwise be amended at any time and in any respect so long as they only reflect provisions that are contained in the LLC’s operating agreement. In the alternative, articles of organization may be amended by restating the original articles of the organization, without any additional amendments.

 As a final lingering piece of history, an LLC may be organized to conduct or promote any lawful business purpose (Some states require a statement of specific purpose or some iteration stating that the LLC is organized to conduct any lawful business.) When LLCs were first formed, and corporations for that matter, they could only receive the legal protections and benefits of their formation if they were formed to accomplish a specific purpose. 

Partnership Formation: Basics

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As I mentioned in a previous article, a partnership is the presumed business entity when two or more people operate a business together for a profit. In its simplest form, this means that two people selling fruit on the side of the road and splitting the profits operate a partnership. This presumed partnership structure is governed by state statutes and may provide some unfavorable terms, for example even though one partner contributed 99% of the capital, the profits must be split equally. To remedy this issue states, permit parties to a business to create partnership agreements that control how the partnership will operate rather than the gap filler provisions of state law. 

An oral agreement to conduct a partnership may be valid but will be subject to the Statute of Frauds and so should generally be avoided. If the business of the partnership involves those subjects addressed by the Statute of Frauds, then the partnership agreement and contracts derived from that agreement must comply with the statute. Due to concerns about enforceability and fraud, contracts and agreements regarding the sale of goods, transactions in lands, creation or modification of debt, or work that cannot be completed within a year should be in writing. That is not to say partnerships and contracts created by oral agreement are ineffective, rather they will be harder to enforce if an issue arises. 

Some partnerships like the limited partnership or limited cannot be formed without the use of a written agreement. Those partnerships must comply with statutory requirements which often involve submitting the partnership agreement to the Secretary of State to obtain limited liability status.   

Partnership formation is fairly simple, as it can be created with very little formality, however, there are a few things to consider before forming a partnership or before entering a business arrangement that could be classified as a partnership. 

This is a checklist listing some information to consider and address before forming a general partnership.

  1. Who are the Partners?
    1. What is the full name, legal and how are they known in the community
    2. What are the financial resources and/ or liabilities that they currently have or will contribute to the partnership?
    3. What is their family circumstance? (Are they married, divorces, estranged, expecting children, etc. Each can substantially impact the business. If a partner is getting divorced they may be forced to liquidate their interest in the partnership.)
    4. What are the relevant skills or experiences of each partner?
  2. What is the business?
    1. What business activities are anticipated now and in the future?
    2. What is the name of the partnership? Is that name available?
    3. What is the primary location of the business? Are there other locations where the business will operate?
    4. What will the business need to start?
    5. What will the business need to operate? What buildings, equipment, inventory will be necessary to maintain the business?
    6. How will business assets be acquired? Will partners contribute cash, property, or services and how will those be used to acquire assets? Will the partnership buy equipment, lease it, or will it be part of a capital contribution?
    7. How much cash will the business need to start up? How much will it need during the first month, six months, and year? What reserves will it need if there is a delay in cash flow?
    8. If the business expands in the future, how will that be accomplished? Will that funding come from profits, borrowing, or contributions by partners?
  3. What are the important dates for the partnership?
    1. When will the business begin?
    2. How long will the business operate? 
    3. Are there specific dates or events that will cause the business to terminate?
  4. What about Capital?
    1. What property, cash or otherwise, will each partner contribute, and when? If partners contribute services, what is the value of those services and what are the tax implications?
    2. How will value be determined by contributed property or services? How will liabilities associated with that property be apportioned between partners?
    3. How will additional contributions or withdrawals from the partnership operate? If partners are withdrawing some or all of their contributions, can that happen before the business is dissolved and wound up?
    4. How and who will determine whether additional contributions will be required?
    5. If partners are unable to make the required contribution, will collateral security be an alternative?
    6. What are the rights of partners and the partnership if a partner defaults on the contribution?
    7. Should partners receive interest on their contributions? (Unless provided in a partnership agreement most state laws do not require this treatment.)
    8. Can partners lend money to the partnership? What are the terms and conditions for such lending?
  5. How will distributions be handled?
    1. How often will distributions occur? How much or what percentage of available cash will be distributed? How will those amounts and dates be determined and by who?
    2. Can property be distributed rather than cash? If so how will liabilities be handled?
    3. How will refinancing, sale, or other capital proceeds be distributed if different than cash?
    4. Are there minimum guaranteed returns or preferred returns for partner contributions?
    5. Will partners receive a salary or its equivalent? Can partners draw against future distributions?
    6. Are partners entitled to reimbursement for ordinary business expenses?
  6. How will profits, losses, and taxes be treated?
    1. How will profits be divided among partners, and will those allocations remain constant or will they change during the life of the partnership? If they change, what is the triggering event?
    2. How will losses be allocated? Will losses be allocated based on the partner’s share of profits, initial contributions, equally, or some other formula? Will loss allocations change during the life of the partnership? If so, what will trigger that change?
    3. Will partners have special tax allocations or treatments? (This tends to cause a lot of taxing problems after the first couple of years. If it may be an issue, talk to a qualified accountant and or tax attorney for advice.)
    4. Will any tax items be specially allocated to one or more partners? (See above)
    5. How will profits, losses, and tax items be allocated between assignors or assignees of partnership interests?
  7. How will the accounting and banking be handled?
    1. What will be the fiscal and tax years of the partnership?
    2. How will partnership books be maintained? Will the partnership use an accrual or cash basis? Who will be the primary bookkeeper?
    3. What financial statements will be provided to the partners and how frequently? (In addition to the requirements of State and Federal laws.)
    4. Will the partnership have periodic audits, reviews, or investigations by accounting firms? If so, when, how will they be accomplished, and how will they be financed?
    5. What are the rights of partners to access or copy the books and records of the partnership?
    6. Where will deposit accounts be maintained and who will have signature authority? Will the partnership have investment accounts, if so with whom and who will have control?
  8. How will the partnership be controlled or managed?
    1. What are the rights of partners to management? Will partners have an equal voice, will all decisions or certain decisions require unanimous consent, will decisions be made by managing partner(s) or by a majority/ supermajority in number or interest of partners?
    2. What authority will partners have? Will all or only some partners have the authority to bind the partnership?
    3. What will be the process to select or remove managing partners?
    4. What bond or other security will be required to be a partner?
    5. How will partner meetings be held, when, where, and who can call a meeting? (Additional notice and quorum requirements should be considered.)
    6. What rights do partners or the partnership have to indemnification by the other? What requirements or procedures should operate as a prerequisite to indemnification?
    7. What additional agreements or other actions will be permitted or forbidden by the partnership agreement?
    8. How much time must partners dedicate to the business and what other activities may partners engage in, including competing activities?
    9. How will disputes be resolved and is there a preferred method, such as litigation, mediation, arbitration, etc?
  9. How will new partners be admitted or partner interests be transferred?
    1. What are the conditions for a new or additional partner to be admitted?
    2. What are the restrictions on the sale, transfer, encumbrance of partnership interests?
    3. What are the rights of assignors or assignees of a partnership interest, and under what conditions will an assignee become a substitute partner?
    4. Will partners or the partnership be given a right of first refusal before assignments or transfers of partner’s interests occur?
  10. How will partners withdraw or be expelled from the partnership?
    1. What provisions are needed to expel a partner, on what grounds, and by what method?
    2. Can partners withdraw from the partnership? If so what notice is required?
    3. What activities may a withdrawing or expelled partner engage or be prohibited from engaging in, eg starting a competing business?
    4. What will happen to the business in the event a partner dies, becomes disabled, is expelled, files for bankruptcy, withdraws or otherwise disassociates with the partnership? What options are available to the remaining partners? May they continue the partnership or liquidate it? If the partnership continues, how long may the disassociated partner or estate participate in the management and business of the partnership, and may their interest be purchased?
    5. What right will partner’s have to purchase the interest of a deceased, disabled, expelled, bankrupt, or withdrawing partner, and whether the partnership may be a purchaser?
    6. How will the purchase price of a partnership interest be determined? 
    7. How will payment of the purchase price be made and whether security for future payments will be required?
    8. What rights do former partners have for indemnity against future liabilities or will they remain liable for their share of all or some liability? Will funds be withheld from the purchase price of a partnership interest to address contingent claims?
  11. What are the requirements for Life insurance?
    1. Are partners required to purchase life insurance and name the partnership as beneficiary? May the partnership purchase life insurance for its partners?
    2. How will uninsured partners be treated?
  12. What happens when the partnership winds up and liquidates?
    1. What acts other than the expiration of the term of the partnership will result in liquidation and winding up of the partnership? Examples include an agreement by a certain number or percentage of partners, sale of all or substantially all the partnership assets, the death, disability, bankruptcy, withdrawal, or expulsion of a partners. What will happen while winding up and what rights do partners have to continue the business or purchase the interest of an affected partner?
    2. What are partners entitled to on liquidation of partnership assets? Do liquidators receive special compensations?
    3. What are the rights of partners to specific property on liquidation?
    4. What property may be distributed in kind and whether property may be distributed disproportionally or subject to liabilities?
    5. What priority will partners have to distribute property on winding up and liquidation?

A Quick and Dirty Overview of Consumer and Business Bankruptcy

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In a recent rather nerdy conversation with a friend, I was discussing some recent changes to bankruptcy law that a large portion of the population could benefit from. Without realizing I kept saying phrases like “Chapter 13,” “Chapter 7,” and “Chapter 11” without realizing that my friend had very little idea what each of these terms meant. A quick review of news headlines will show things like “Consumer Bankruptcy Expected to Increase” and “ABC Corporation Files for Chapter 11 Bankruptcy.” Neither of which explains what is going on.

In simple terms, there are two very broad areas of bankruptcy. The first, and most common, is Consumer Bankruptcy. Consumer bankruptcy is what individuals and families use when they can no longer make ends meet or something catastrophic happens that they can’t afford. Business Bankruptcy involves the restructuring or termination of businesses that were struggling to meet their obligations. There is a little overlap between the two but by and large, they are two different ideas.

Before jumping into an explanation of the two broad types of bankruptcy it is important to distinguish when businesses or consumers can declare bankruptcy. In order to declare bankruptcy, the Debtor must fill out a collection of paperwork that details their financial condition, this paperwork lists the property, money, debts, and other important issues for the Debtor, Court, and Creditors. These documents help show that the Debtor is insolvent, the Debtor cannot pay their obligations as they come due. There is no requirement that Debtors be insolvent, however, Debtors are unlikely to file for bankruptcy if they are solvent, since there are better solutions.

Consumer Bankruptcy:

When people refer to consumer bankruptcy, they are often referring to Chapters 7 and 13 which are used primarily by non-businesses, though some businesses do use Chapter 7. Chapter 7 is often referred to as a no-asset bankruptcy, this is the form of bankruptcy that is frequently portrayed in the media since it often means the debtor (person who has no money) sells off their property and distributes their assets to their creditors (the people and businesses they owe money to). However, the Debtor does not need to sell off everything they own. That would be rather unfair, imagine having to sell your old socks or your wedding ring, both of which should be left to the debtor for very different reasons. Each state provides a set of exemptions that protect property that debtors own, there are exemptions provided by federal law, but they tend to be less generous than the exemptions provided by the states. You may already be familiar with some of these exemptions, for example, people in Texas and Florida have an exemption on their homes and so they cannot be forced to sell them. Other states have less generous exemptions so that after the sale of the house a specific dollar amount is set aside for the debtor with the remainder going to the debt.

The money that was received for the sale of the Debtor’s property is collected into a pot, known as the estate, before being distributed to the Creditors. Some of the creditors will be able to collect before other creditors based on contractual agreements and federal law. For those who did not have the chance to collect early, known as Priority, they are paid pro-rata from the contents of the estate. So they are paid in proportion to the amount of debt they are owed. For example, if X is owed $120,000 of the $500,000 of the remaining debt, X would receive $0.24 of every $1 that is paid out. Often there is very little available to pay out and so creditors will receive far less than they are owed. They may and often are very angry about this. However once the Debtor has paid out what they can and the local Bankruptcy Court has reviewed the Debtors Case, the Debtor is given a discharge order. The discharge order means the debtor is no longer “in” bankruptcy, it also means they no longer need to pay for those debts that were incurred before they filed bankruptcy.

I mentioned that some Creditors may be unhappy about a Debtor filing bankruptcy because they will get less than they are owed, so there are some rules in place that protect Debtors against overly aggressive Creditors. Once a Debtor files bankruptcy they receive automatic legal protection, known as the Automatic Stay, which prevents creditors from trying to collect on their debt. What is often under-appreciated is the Automatic Stay protects against almost all collection efforts. An example many people are familiar with is student loan debt collection, letters from a loan servicer (the organization that owns the debt) reminding a Debtor how much they owe can qualify as a collection attempt. The penalties for these collection attempts can be harsh since Creditors in violation of the Automatic Stay may not be able to collect anything for their debt even if there is money to pay out, they may be fined, jailed, and many more. Similar protection exists after the bankruptcy, known as the Discharge Injunction, which prevents creditors from collecting on debts that were discharged by the bankruptcy.

On the other end of the Consumer Bankruptcy spectrum is Chapter 13 bankruptcy. While Chapter 7 involves the selling off of the Debtor’s assets, Chapter 13 allows the Debtor to make payments of all of their excess income beyond their living expenses over the next 3-5 years in satisfaction of their debt. After the 3-5-year payment period has ended the debts that existed before bankruptcy is discharged. For Debtors who want to hold on to their property, this may be a better alternative. However, if a Debtor misses payments during that payment period there is a very real risk that their debt will not be discharged. This is a particular issue for Debtors who have an unexpected change in circumstance, like a medical bill that prevents the Debtor from paying all of their excess income towards their debt.

Business Bankruptcy:

Business Bankruptcy is similar to Consumer Bankruptcy in a couple of different ways. Businesses can file for Bankruptcy under Chapter 7, and thereby dissolve after they pay what they can. However, most businesses and business owners would prefer to continue in operation because their business still has the capability of producing a profit. The caveat of Chapter 7 is that businesses that use this Chapter must cease operations immediately and prepare to liquidate.

Unlike normal people, businesses cannot file for Chapter 13 and so cannot make payments over a period of time to have their debts discharged. However, their alternative is Chapter 11 which allows businesses to reorganize to limit debt burdens. If a business is unable to find the funding and work with its Creditors, it may be liquidated.

Businesses that file for Bankruptcy can continue to operate while in Bankruptcy, in other circumstances the businesses would be forced to cease operations. In most instances, the management of the bankrupt business controls the business before, during, and after bankruptcy. However, some decisions can only be made with the approval of the court overseeing that business’s bankruptcy case. For businesses using Chapter 11 they must provide a plan that explains how the company plans to pay back its debt.

The mechanics of Chapter 11 can be very complex. When a business files Chapter 11 bankruptcy it is assigned a committee made up of the Creditors and Owners who represent the interests of these groups during the Bankruptcy. The Committee works with the Debtor to develop a plan for reorganizing the business and pay off the debt. Once a plan to reorganize has been proposed, the Creditors have an opportunity to vote on the plan. If a majority of Creditors do not approve the plan, Creditors may propose their plan. These cases often involve dozens, if not hundreds, of creditors which makes getting approval of a plan difficult. If no agreement can be reached, then the business’s assets may be sold off reducing the likelihood of a successful reorganization. Due to the complex nature of these cases, the bankruptcy court overseeing the business’s case must approve the reorganization plan.

Buy/Sell Agreements

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The buy/sell agreement may not be familiar to individuals who have just started their business or are working on their own however, these agreements are an important way of controlling the outcome of the business. The basics of the agreement are straightforward, the agreement sets out how an owners share of the business may be assigned or transferred if the owner dies or wants to leave the business. The agreement serves to smooth the changes that might occur if one of the four D’s happen. In the case of death, divorce, dissolution, or disaster, the agreement lays out how the business ownership will work moving forward.

There are a few different ways that these agreements may be setup. First, the agreement may require that the remaining owners purchase the shares of the departing owner. Second, the business may purchase the ownership interest of the departing owners, this happens more often with closely held corporations than partnerships or LLC’s. Depending on what the owners of the business want, they may opt for a mix of the two options.

It is important to know that there are several reasons that a business may need a buy/sell agreement even if things are going well and there doesn’t seem to be any reason to use one. One of the big reasons is that it allows the owners to restrict who may become an owner. It is very common that small business owners are concerned about the possibility that a new owner will push the original owner out of control. When an owner dies, a restriction on who becomes the new owner can prevent the deceased owner’s estate from selling, transferring or otherwise controlling the business when the estate does not have the same focus on the success of the business that an original owner may have had. Additionally, the agreement creates an impartial method of determining the value of the departing owners share of the business. Instead of allowing the remaining owners and departing owner from arguing and possibly destroying the business, a valuation method creates the separation necessary to conduct an impartial sale of the departing owners share or another transfer free of the concerns that might hinder or destroy a sale.

It is important to remember that along with many other business transactions, a buy/sell agreement must be funded by the owners or the business. Problems frequently pop up where an agreement states that the business or an owner will buy the shares of a departing owner yet the buyer does not have the money available to make the purpose. This may result in the becoming stale and eventually unenforceable. Or the buyer may be saddled with debt that makes them insolvent, which in turn kills the business and forces the individual owner or business into bankruptcy. To avoid this problem companies often rely on insurance policies in the case of the death or disability of an owner, or they use cash proceeds and or borrowed money to buy the departing owner’s share.

The Basics: Simple Types of Business Organizations

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If you are anything like me, you might be confused about different forms of business entity. Law school students and attorneys frequently stumble when faced with a new or unfamiliar form of business structure, and with the frequency of changes in the law, this situation occurs more often than you might think. Business organizations or associations, depending on where you live, is an area of law that focuses on the rules involved in the formation and operation of different business types. Courses on this subject are taught in many law schools and it is a frequently tested subject on the bar. It is often overlooked by students in law school and by entrepreneurs who do not appreciate the importance of the subject.

To resolve some of that confusion this post will address four very simple types of business. This is by no means an exhaustive description and these businesses differ from state to state, however, these businesses are widely recognized.

As a brief introduction, there are two different ways to form a business. First, an individual or group of people can simply start doing business. Second, an individual or group of people can file documents with a government agency, typically the IRS and their state’s Secretary of State, to form a business. The first way is free, however, it does not protect the owners from common issues like liability, improper actions by employees, tax issues, etc. The second type requires a little more thought and a filing fee or two but allows greater protection because it lets the business owners set the rules of the business. This is a huge benefit because courts examining a business entity will often rely on old inflexible rules that may run contrary to what the business owners wanted or intended. Let’s jump into the four main groups shall we?

  1. Sole Proprietorship

The Sole Proprietorship is one of the simplest business organization. The sole requirement, (no pun intended) is that an individual begins doing business. This could be complicated web development, the opposite of what I do, or the individual may start selling things at the local flea market. The essential component is that they are the sole owner of the business and they are doing business. The IRS has a slightly different definition, but one that for all intents and purposes is the same. It reads: “A sole proprietor is someone who owns an unincorporated business by himself or herself.”

Sole proprietors are liable for almost everything. Because there is no separation between the owner and the business the owner is responsible for any violation of law, or harm that he or she causes. Individuals who sue the business may collect from the business and if the business doesn’t have enough money then the individuals can collect from the business owner. This means that business owner is also responsible for their employees, and are liable for the taxes and fees associated with those employees.

The sole proprietorship is very good for individuals who don’t want to go through the hassle of filing multiple tax returns. All of the profit and loss of the sole proprietorship is passed on to the business owner.

2. Partnership

Partnerships are the multi-person compliment to the sole proprietorship. A general partnership is formed when two or more people start a business together, so long as ownership is shared between them. However, people may form limited partnerships by agreeing to certain rules that govern the relationship between the partners. Ownership is split proportionate to the number of partners, so if there are two partners then ownership is 50/50.

In a general partnership every member is liable. This means that creditors, like the IRS or people who have sued the partnership, can collect from the assets of the partnership and if there is not enough money in the assets, they can then collect from the partners as well. To prevent this result a lot of partnerships choose to file as limited partnerships (lp) of limited liability partnerships (llp) because they can limit their liability to the assets of the partnership. Put simply, the partners will only lose what they have put in.

Partnerships pass their income to the partners. So the partnership does not pay any tax instead the partners pay their income tax on their portion of the partnership income. However, partnerships can choose to be taxed like corporations which means the partnership pays tax on what it has made and then the individual partners pay additional tax on what they are paid by the partnership.

3. LLC (Limited Liability Company)

The LLC is a fairly new business organization. Unlike the previous two, it has existed for the past 43 years. LLC stands for Limited Liability Company, if you mistakenly say corporation you will receive odd looks and a few eye rolls. The LLC is created by filing paperwork with the state. This differs from state to state however most states require that the business owners file with the state’s secretary of state. Along with basic information about the business including its purpose, name, and some contact information, the business must also have articles/certificate of organization, this is essentially the founding document.

LLCs limit the liability of the owners. The owners are usually liable up to the amount of the LLC’s assets. This is very useful especially for businesses that operate in riskier areas, where they are more likely to be sued.

LLCs may be taxed as a corporation or as a partnership, however, the default rule is that they will be taxed as partnerships. So, the LLC’s owners pay the taxes for the LLC through their personal income tax. The LLC’s profit passes through to the owners, is treated as a wage or salary.

4. Corporations

Corporations are well known and both hated and loved. People love to own stock of corporations but hate what corporations do. Corporations function similarly to an LLC. They are formed by filing specific paperwork. These documents include the article of incorporation (aka the founding document), Bylaws (the rules), and other agreements or documents as necessary. At the same time as the filing of the articles of incorporation with the Secretary of State, the corporation must sell its stock. Stock is ownership in the business. Stock is often referred to as shares or securities, and it represents a right to vote and be paid for that ownership.

The owners, or shareholders, of a corporation have limited liability. They cannot be required to pay more than the what they have already contributed to the company. For example, corporations like Purdue pharmaceutical have been sued repeatedly for their part in the opioid crisis and those companies have lost a lot of money. However, the creditors, or the people suing, are limited in the amount of money they can get, they cannot collect from the owners of the stock after they have exhausted all of the companies money.

Corporations are subject to double taxation. The corporation is taxed on its profits, and then the shareholders are taxed on the money they receive from the corporation as their share of those profits.

Conclusion:

Each of these business organizations has its own advantages and disadvantages. Sole Proprietorships give the owner absolute control over their business but they are liable for all debts or actions against the business. Partnerships allow a lot of control but are also liable for almost everything. LLCs limit liability but cost more to make and have limitations on the owners’ ability to control the business. Corporations provide a lot of liability protection however control is as centralized.