Limited Liability Company

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There are a lot of different entities, or forms, that you can use to create a new business. One very popular business entity is the limited liability company or "LLC," which is a business form that combines some of the features of a partnership and a corporation.

Because there are some big advantages for using the LLC form of business, it has become the favored choice for persons looking to start a new business (and particularly a small business). But, there are some disadvantages to the LLC form, as well, which need to be considered before making a final decision of the form of your business.

Things such as how to form an LLC and how it is to be run or operated are controlled entirely by state law, and the laws, of course, vary from state to state. So, it's very important that you understand the laws in your area concerning LLCs, or get some help from an experienced business law attorney, before you decide to form an LLC.
What's an LLC?

An LLC is a combination of a partnership and a corporation. The owners of an LLC, called "members," get many of the same tax benefits as partners in a partnership and enjoy the limited liability benefits of a corporation.

Typically, unless the members choose otherwise, an LLC is taxed almost exactly the same way that partnerships or sole proprietorships are taxed. Profits and losses are "passed through" to the members of the LLC, and there is no income tax at the business level, or "double taxation."

That is, with a corporation, there is a tax on the corporation's net income, and then the corporation's shareholders (or stockholders) must pay individual income taxes on any dividends they receive from the corporation. With an LLC, on the other hand, the profits "pass through" to the members, and they pay income taxes at their individual tax rates.

Choosing the LLC form can bring you some significant tax disadvantages, however. For example, the profits you receive from the LLC most likely will be subject to self-employment taxes, which are designed to cover the Social Security and Medicare taxes that most employees have withheld from their paychecks.

Like a corporation, the members of an LLC are generally shielded from personal liability for the LLC's debts and obligations. This is perhaps the biggest reason why the LLC business form is so popular. So, for example, if the LLC takes out a business loan and is later unable to repay it, the creditor can't sue the individual members to recover payment on the loan.

There are some important exceptions to this rule, however. Most state laws do not shield members from personal liability on a debt or liability owed by the LLC when, for example:
The member personally guarantees the repayment of a debt
The members use the LLC to commit fraud
A member is negligent in appointing or supervising a manager, employee, agent or other member of the LLC with respect to some action that causes harm or damages to a third party
Forming, Managing and Closing an LLC

You form an LLC by filing a form with the secretary of state for the state in which the LLC will be located. The form is called a "certificate of formation" or "articles of organization," or some similar name. The state laws vary significantly on what information must be contained in the articles, but usually you must give at least the LLC's name, address, and the name of its "registered agent," that is, the person who is responsible for accepting important documents, such as legal and tax documents, on behalf of the LLC.

Most of the rules that govern how the LLC will be run are contained in the members' private operating agreement, which is similar to a partnership agreement or corporate by-laws. Unless the operating agreement provides otherwise, all of the members are responsible for managing the LLC, but they can choose to delegate their management authority to a particular member or group of members, or, in some cases, to a non-member manager.

Generally, unlike most corporations, LLCs may have an unlimited number of owners, and there are no restrictions on the type of persons who may be owners. Some states, however, require that an LLC have at least two owners.

Usually, fundamental changes within the business require the unanimous approval of the members. So, all members must consent to the admission of new members, for example. The operating agreement will often contain a provision on how and to whom one member can sell his or her share in the LLC to a third party. Very often, the agreement states that members must first offer their share to the other members, or the other members must consent to the sale.

Upon any member's death, retirement, resignation, expulsion, bankruptcy or dissolution, the LLC is usually dissolved unless the remaining members agree to continue the LLC. Of course, the members can voluntarily choose to close or "cancel" the LLC at any time and for any reason, but the process can be complex, depending on the laws of the state where the LLC is located.
Questions for Your Attorney
I'm in a two-person LLC. I personally guaranteed a loan to the LLC after my co-member agreed to help repay it. That agreement is not in writing, and he recently died. Am I liable for the loan?
One of the members of our LLC wants to sell his share to someone, but some of us don't want the sale to go through. Can we stop it?
What's the difference between an LLC and an LLP, a limited liability partnership, and what factors about my business are important in selecting one form for my business over the other?