A limited liability corporation (LLC) is one of the most common business forms, and its adaptability allows it to be taxed in a variety of ways:
As a business (i.e., C corp and S corp)
As an individual proprietorship
As a limited partnership
This might leave new company owners perplexed regarding the legal status of LLCs.
So, is a limited liability company a corporation or a sole proprietorship? The answer is “both” and “neither” since it is a hybrid structure.
What Are Sole Proprietorships, Corporations, and Limited Liability Companies?
Each company structure has its own set of pros and downsides. These are often connected to a company’s financial, management, and tax-related characteristics.
Single-person businesses
A sole proprietorship is one of the simplest (and most common) company arrangements. It gives owners complete freedom over how their businesses are handled and is subject to very little government oversight.
Even if you do not register as a sole proprietorship, the Internal Revenue Service may consider you to be one if you participate in certain kinds of business operations (for example, as a freelancer or independent contractor) (IRS). This implies you might be the owner of a sole proprietorship without ever realising it.
A sole proprietorship is not treated as a distinct legal entity from its owner (s). As a result, sole proprietors do not enjoy the advantages of the corporate veil, such as less personal responsibility, the opportunity to register as a firm employee, and the ability to claim larger tax deductions.
This implies that single proprietorship owners are individually accountable for any debt or obligation incurred by their firm.
Common bankers sometimes see sole proprietorships as less “credible” (e.g., banks, credit card companies, etc.). Because they are unable to sell shares, acquiring money is often significantly more difficult for them.
A sole proprietorship is not subject to “double taxation” since it is not deemed a distinct financial entity from its owner(s). Instead, the earnings of a sole proprietorship are regarded to be the profits of its owners, and are taxed on an individual basis (personal tax returns).
A solo proprietorship has the following advantages:
Simple and low-cost formation
Complete control over how the company is run (i.e., no IRS requirements)
Simple taxation structure
A solo proprietorship has the following disadvantages:
There is no limited responsibility.
fewer financing alternatives
Brand image is less believable.
Companies C Corporations (C Corp)
A C corporation is a legally distinct legal entity from its owner (s). This implies it may make a profit, be held accountable in court, and be taxed independently from its owners.
Among the advantages of such a structure are:
Shareholders have little personal responsibility.
Enhanced credibility
increased financing availability
Increased capacity to claim tax breaks
Easier ownership transfer: This is due to the fact that it persists forever independent of the fate(s) of its owner (s)
Capability to register as a company employee
C corps, on the other hand, have a few disadvantages:
Taxation twice
C corporation stockholders are taxed twice on the same income stream. Once at the business level (21%), and again at the personal tax returns of the owners.
Despite this, the financial advantages of larger tax write-offs, employee-registration perks, and expanded financing options may make C corporations an excellent choice for medium- to large-scale firms.
Increased Government Oversight
C corporations are subject to many more rules than their unincorporated equivalents. They must, for example, convene (and record) yearly meetings with the company’s shareholders and board of directors.
Formation is more difficult and expensive.
Unlike sole proprietorships, registering your firm as a C corp requires you to meet a slew of legal and filing requirements. There are also other charges (especially if you choose to hire an attorney or tax consultant.)
While this may not be the “end of the world” for existing enterprises, they may deter smaller businesses whose financial advantages may not exceed the initial beginning cost of registering as a C / S Corporation
(S Corp)
An S corporation isn’t really a company structure; it’s an IRS tax status that allows the owners of LLCs and corporations to avoid “double taxation.” This is accomplished by transferring the S corp’s earnings through to its shareholders without paying corporation tax.
At the same time, S corp owners have limited accountability under the law.
Even if this seems to be a preferable option to the C company, the truth is more complicated. Companies must meet certain standards in order to be eligible for S corp status.
These might vary greatly according on your state, with some refusing to recognise S corporation status at all.
A company must meet the following requirements to be eligible for S corp status:
Be a domestic company.
Have a maximum of 100 stockholders.
There are only “allowable owners”: Individuals, some trusts, and estates are examples of them.
Have just one kind of stock.
It must not be an ineligible company (e.g., insurance companies or financial institutions)
If you want to become a S Corporation, you must submit Form 2553 (Election by a Small Business Corporation) once all of your company’s shareholders have signed it.
More information is available on the IRS website.
Profit Corporation (B Corp)
In terms of personal accountability and taxes, a B corporation is almost equivalent to a C corporation. They are, however, quite different in terms of goal and structural clarity.
In addition to functioning for profit, B corporations must demonstrate that they are furthering a specific “mission” or cause that benefits the public.
If you wish to operate as a B corporation, you may be required to produce yearly “benefit reports” depending on your state.
The advantages of forming a B corporation are usually non-monetary:
Promote social progress
Attract workers that share your values.
Obtain information on the B corp community.
The benefit corporation structure is not available in every state. If you wish to register your firm as a B corporation, you will need to alter your Articles of Incorporation and bylaws to reflect this, which is normally a simple procedure.
B Corps certification
A Accredited B Corp is a company that has been certified by the independent organisation B Lab. It is not required to be a benefit company to become a Certified B Corp (or vice versa), although it may give additional transparency.
If you wish to become a Certified B Corp via B Lab, you must complete three major steps:
Take the B Impact Rating System and get a score of at least 80. (you will be updated via a telephone interview.)
Adopt a B Corp structure inside your organisation.
Fill up and sign a Term Sheet, which formally “certifies” your B Corp status.
Firm Corporation
A close company is a legally recognised business organisation that:
Is not a publicly traded company
Does not exceed the statutory maximum number of shareholders (usually 35).
This sort of company does not need an official board of directors and is not subject to the same amount of regulatory scrutiny as C corporations. They are not obligated, for example, to convene or record yearly meetings.
A close corporation’s stockholders have the same personal responsibility as they would in a general partnership.
However, when they step in and actively run the firm, they maintain their limited personal culpability under the law in return for having to follow the fiduciary obligations of a corporation’s directors.
The following are some of the advantages of a close corporation:
Increased shareholder power
Less government oversight
Enhanced managerial adaptability
LLCs
An LLC is a hybrid organisation that provides company owners with the administrative and structural freedom of a sole proprietorship while still retaining numerous incorporated advantages.
Furthermore, LLCs are particularly adaptable in terms of taxation. They have three tax structuring possibilities, depending on their owners’ eligibility:
Partnership — Default status for single-member LLCs Disregarded Entity (i.e., sole proprietorship) — C Corporation S Corporation is the default status for multi-member LLCs.
As a result, answering the question “Is an LLC a corporation or sole proprietorship?” might be perplexing. From a tax standpoint, an LLC may chose to be classified as either business entity, which means it can be taxed as both.
On the other hand, because of its overall flexibility, popularity, and unique capacity to profit from a usually low level of government monitoring while keeping integrated advantages, it is likely to be in a class by itself (i.e., neither).
Is an LLC the Right Choice for My Small Business?
Several criteria will determine if an LLC business form is appropriate for your company.
Among them are your:
Capital available in the industry
Leadership style
Future objectives
Overall, you should examine if the advantages of an LLC (e.g., no double taxes, reduced paperwork, restricted personal responsibility, etc.) will be considerable when accounting for the present size of your firm.
In general, LLCs may be beneficial to small enterprises because:
Their enhanced adaptability may allow them to “keep doors open” in the future.
They enable company owners to avoid putting their own personal assets at risk.
They may be generated fast (especially when relying on specialised LLC formation services)
How Do I Form a Limited Liability Company?
Creating an LLC is a straightforward process. In general, you should do the following steps:
Check your state’s filing requirements: These might vary greatly from state to state, so it’s critical that you familiarise yourself with your state’s unique rules before beginning the registration process.
Check the validity of your profession: In several states, some occupations are not qualified for LLC registration (e.g., lawyers and doctors). Because the nature of their employment necessitates an unusually high level of care, lawmakers have argued that such specialists should not be subject to limited personal responsibility.
Select a registered agent: LLCs must have a registered agent and/or a registered office. This might be them, another qualified person or company, or a registered agent service.
Fill up and submit your Articles of Organization: This may vary based on where you live, however it will usually include:
Your company’s name
Information about your registered agent
The effective date and duration of your LLC
Your members’ or supervisors’ names and addresses
Make an operational agreement: This should contain the following:
How your LLC’s income will be distributed
How your LLC will be run on a daily basis
How choices will be made
The percentages of ownership in your LLC
What happens if one of the LLC’s owners decides to disband it?
What happens if an owner decides to leave?