LLC’s and Taxes
Limited liability companies are a little like the new kid on the block. Everyone wants to get to know them and be their friend, even if they don’t quite know everything about them yet.
Compared to corporations or partnerships, LLCs are relatively new to the business world. But despite some gray areas that surround legal obligations and regulations for this classification of business, limited liability companies have grown increasingly popular. This comes in large part because of the benefits LLCs offer—they are easier to run and maintain, cheaper to start and give some tax and income advantages. They have grown especially popular during the economic downturn, as pressures on businesses have mounted and available start-up funding became harder to find. Between 2008 and 2009, the recession’s most severe years, the number of LLCs founded jumped 12 percent.
One of the biggest advantages of a limited liability company is the easy and money-saving tax situation it provides its owners, who are referred to as members. But to better understand these benefits and why they work so well, it’s best to take a step back and a closer look at the LLC itself.
The idea of a company where the owners have limited personal liability for its actions is not a new one, at least not in the United States. It was founded just before the turn of the 20th century in Germany, and over the next few decades spread to other nations in Europe and eventually Latin America as well. Though it came to America in other forms around this time, it was not until Wyoming officially authorized it in the 1970s that LLCs in their current form were an option for American business owners.
They gained popularity for the limited liability placed on members, meaning they could not face lawsuits or be affected by the company’s bankruptcy the way owners in a partnership could. Limited liability companies are also popular because of their hybrid nature, taking some of the most attractive aspects of corporations and partnerships while also avoiding some of the hassles of these businesses. Members don’t have to hold meetings they way corporations do, pay less in fees to get the business started and can use the classification for a range of different business types. LLCs can even be formed by foreign entities or corporations, taking the legal protections and benefits of these organizations.
But when it comes to the benefits that limited liability companies offer, the tax situations is one of the top. What sets LLCs apart from S corporations or C corporations is that the members of an LLC only pay taxes once on their profits. For corporations, any profits are subject to corporate taxes before they can be turned over to owners as income. This is known as double taxation, but it’s actually more than that because the corporate taxes are paid to the federal government as well as local or state governments. But with limited liability companies, taxes on the profits are paid directly by the members through their personal income taxes. Even if the company doesn’t turn a profit, members can still benefit from the tax situation—they are able to write off any LLC-related losses on their personal income taxes.
The taxes and fees associated with starting an LLC are also less than their counterparts in partnerships, sole proprietorships or corporations. Starting a limited liability company involved simply filling out a form known as “articles of organization” and filing it with the proper state authority. This document spells out voting rights, the responsibilities of the owners and some procedures into how other members could be brought in or how the company could one day be dissolved. Though some experts suggest hiring an attorney to complete this form, most states keep it self-evident enough for anyone to fill it out, and states also limit the cost to around $50. Many states, including Washington, even have online options for people looking to register their limited liability companies.
Taxes remain low and administration stays easy even after this start-up period. The annual fees for LLCs are generally lower than those of corporations, and the annual regulatory requirements are much easier. There are some limitations to the tax advantages LLCs can offer, as well as limits to the liability itself, so business experts suggest studying the applicable state laws closely or consulting with an attorney. Those interested in finding out more about how limited liability companies work or who would like to find forms on how to start one can find them at LLC.org.