Limited liability companies (LLCs) are a form of corporation with its liability limited. It may be considered as a toned down version of corporations. Usually large LLCs get turned into corporations.
While corporation is a favourable business structure for high growth businesses, they also involve more paper-work and compels you to put more information about your company, in public.
That’s why if you are just starting out LLP and LLCs are the most favourable business structure, until you achieve and are able to sustain a high revenue, growth rate and investments into your business.
Limited liability partnerships (LLPs) are a favoured choice for business owners in the US as it has a unique way of combining key elements of corporations and partnerships and offers the best of both worlds for small businesses.
Although there are some mammoth businesses operating this legal structure, for example, consulting firms and law firms, these are usually the preferred choice of operation for low-growth businesses which do not need rapid infusion of investment or capital.
These two business structures although highly popular, have some key differences, which include management requirements, liability protections, liability insurance obligations, and tax benefits.
Further you should note that different states in the US, often have significantly different requirements when it comes to the operation of these two business structures.
The business legal structure you choose for your startup or business can have important long-term repercussions and therefore, you need to be very careful when making this decision.
Limited liability companies allow enjoying the liability protections and tax advantages of a partnership.
While both limited liability partnership and limited liability company have some commonalities, they also have some very distinct differences, particularly with regard to liability exposure. The choice between these largely depends upon the type and objectives of your business.
A limited liability partnership (LLP) is a partnership in which some or all partners have limited liabilities. It consists the elements of both a partnership and a corporation.
Similarly, a limited liability company (LLC) is a business structure that can combine the pass through taxation of the partnership or sole proprietorship with the limited liability of a corporation.
LLC and LLC differ in their legal liabilities and business obligations and have some pros and cons when compared with each other.
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Some Tidbits about both LLCs and LLPs!
- An LLC is suitable for smaller businesses with few shareholders while an LLP is for businesses offering professional services like legal or consulting that do not need or seek constant funding or investments.
- Management is done by only the members and managing members of the company in an LLC. In case of an LLP, the management powers are decentralized. In fact, it is this decentralization of powers among the partners, that make it a favourable choice for slow-growth but high revenue businesses.
- There is single taxation in both the business forms but in case of an LLC profit and loss are passed directly to the members (top bracket 39.6%).
- The choices of taxation are given in both the business forms of these two organizations.
- The legal entity of both LLC and LLP are separate from those of the partners. But members may be held liable for non-fiscal obligations in an LLC.
- The shareholders meetings aren’t necessary in any of them, yet an LLC should have recorded activities and/ or advisory boards.
- An LLC needs 1 or more members and an LLP needs 2 or more members to set up.
- There is not much requirement of paperwork. But an LLC requires filing annual state reports with the appropriate fee.
- There is no definite term for continuity of life in an LLC. With LLPs with no definite term, death of partners will not cause dissolution.
- The legal agreements are not required in some states for both LLCs and LLPs. But an LLC should have an operating agreement with business records. However, if you’re creating an agreement, make sure it adheres to these 15 essential contract rules.
- The regulation of entity name in case of LLCs differs with each state but mostly LLC or L.L.C is added. While an LLP must include the words “limited liability partnership” or its abbreviation thereof.
Although the business structure of Limited liability companies is not a new phenomenon, deriving its existence since 1977, but its popularity has skyrocketed quite recently. LLCs are mostly formed by small business owners who are not in the professional line of service.
On the other hand, an LLC is a hybrid entity, bringing together some of the best characteristic of partnership and corporation.
An LLC is a much favoured business entity by small businesses due to its tax purposes which is unmatched by any other business structure. In a Limited Liability Corporation, the owners can get the liability protection without having to undergo double taxation.
The profits and losses done by the business pass through the owners and are included on their personal tax returns. LLC are similar to the S corporation but unlike the S corporation an LLC offers small business owners even more benefits such as lesser compliances. Also, there’s no limitation on the number of shareholders an LLC can have, unlike an S corporation, which has a limit of 75. So, if you are thinking about swinging towards an LLC, here’s what you need to consider
Benefits of a LLC compared to other Business Structures
- Limited liability – You can limit your liability based on the amount of shares or on guarantee.
- Simplicity in taxation(double taxation can be avoided).
- Flexible management.
- Flexible distribution of shares and assets, while the business is in operation as well as when the business is going to be wound up.
- Protection of assets, especially intellectual properties such as trade secrets and patents.
- Easy registration – Registration process is very simple and you can start your business quite easily after getting the legal formalities out of the way.
- No stock: tough to raise public money, since you don’t have share or stock certificates to offer.
- Fewer incentives: since there’s no stock, you can’t use stock option as incentives for employees.
- Paperwork: LLCs file articles of organization with the state corporation commission or secretary of state and must draft an operating agreement listing member’s rights and responsibilities.
- Taxes: LLC members pay self-employment taxes, the Medicare/social security tax paid by entrepreneurs; it’s about 15.3% of the profits. You are caught in self-employment tax net if you participate in business more than 500 hrs. During an LLC tax year or work in a professional service LLC.
In recent years, there has been a noticeable increase in the number of entrepreneurs opting for limited liability partnership (LLP) despite of it being a fairly new development in field of business.
There are many reasons for this trend, some of which are listed below:
Benefits of having an LLP
The disadvantages of LLPs are as follows-
- Greater penalties in cases of default or delay in filing compliances. If you are a small business, it can wreck havoc to your company‘s finances including your working capital.
- Not recognized in every state. As such, limited liability may not exist in the states where you may want to do business in.
- One partner can bind other partners. For example, if a partner undertakes a marketing campaign and promises something to customers that is false. This is a clear deviation of marketing regulations in the US. In such cases, the other partners may become entangled. This is a major drawback that is not there in the LLCs.
- Extensive legal documentation. Lawyers do not mind it but obviously a tech company would find it to be a compliance burden.
- Business entity limited to certain professions.
LLCs and LLPs both provide personal asset protection from business debts and liabilities. However, in an LLC the members are not protected from the liability of another member, but an LLP does give this protection. Similarly in an LLC the members are not liable for actions of other members, but partners in an LLP can bind other partners through their actions.
Many incorporate their businesses as LLPs because they want to protect their personal property in case their business fails and they are sued. One big advantage to an LLP is that the partners are not personally liable and cannot be force to pay a business debt or liability with their personal property or assets, as is in the case of general partnerships.
The tax flexibility is one of the advantages of an LLC over an LLP.
An LLP operates like a general partnership, but with liability protection for its partners. Many small, informally-run businesses choose LLCs because of this flexibility in structure and management.
Thus, the choice between an LLC and an LLP depends upon different factors like flexibility, formation process, rights, ownership, size of business, goals of business, etc – but most of all, what business you’re in.
If you’re in tech, go for an LLC. It’s a high growth business. Sooner or later, with appropriate marketing and funding, you’ll need to grow your startup and then you’ll need to convert to a corporation.
But if you’re in the consumer goods industry, consulting, legal and you’re not looking for investments any time soon, then a LLP is the right option for you.
Now, in some businesses, the option is not so clear. For example, the real estate industry – having worked with real estate agents in New York and real estate developers in California, we believe that both the business structures are pretty good options for players in the industry.
In those cases, just rremember this – Although LLPs and LLCs are kind-of tied in flexibilities offered by the legal statutes and operations, for small businesses, an LLC is recommended and LLCs are also better option in case of tax structuring and management. As such, if you are just starting out in real estate, it might be better to get yourself a partner and create an LLP.
That said, there can be several impacts of your own state law on the running of these two business structures. So, it’s important that you consult a lawyer before embarking on this important step.
We, at WinSavvy can help you connect with the best lawyers in the space as well as provide you with a free consultation regarding the best route your business should take.
- Book a free consultation with us, tell us your problem, and we’ll ensure you get the best advice, the appropriate solution and the entire process is lifted off your shoulders asap!