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By Ana Reina
December 3, 2020
Money, Getty Images

A limited liability company (LLC) is a type of U.S. business structure. Created by one or more business owners, or “members,” an LLC allows people to separate their personal assets from their company — which gives them flexibility when it comes to taxes and some liability protection from debt and lawsuits.

What You Should Know:

  • LLCs are formed at the state level (the federal government isn’t involved), and the rules for creating one vary from state to state.
  • In most states, business owners must file Articles of Organization, a legal document used to establish the LLC in the state in which it does business. This process requires a fee.
  • For many business owners, an LLCs strongest selling point is its “pass-through” taxation benefit — the business doesn't pay taxes on earnings, instead, earnings are passed through to the owners who report them on their individual tax returns.
  • Members also enjoy limited liability, meaning their personal assets, like their cars, homes, and savings accounts, are — in many cases — protected from lawsuits and creditors.
  • A member's liability is directly related to the number of business shares they hold.
  • An LLC is a flexible business structure in terms of ownership: individuals, corporations, and even other LLCs can be owners, although some entities like banks and insurance companies cannot operate as LLCs.
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The business structure of an LLC is a hybrid between a partnership, which is an agreement of business between two or more owners, and a corporation, which is a legal entity separate from its owners.

According to Shakera Thompson, a business and intellectual property lawyer based in New York City, LLCs are popular with small business owners because they essentially capture the benefits of a corporation, like personal liability protection, and ownership flexibility, without the disadvantages.

“As in a corporation, LLC members enjoy limited liability, meaning the member’s personal assets are protected against the liabilities of the LLC. Unlike a corporation, however, an LLC is generally simpler to manage because they have fewer administrative requirements, such as having a board of directors,” Thompson says.

“LLCs also enjoy the benefits of pass-through taxation, meaning that unlike a corporation, the business itself is not taxed (which would result in double taxation) and instead the tax obligations are "passed through" to the LLC's members,” she adds.

Organization and Structure

In an LLC, owners are called “members” rather than shareholders or partners. Members must legally draft an operating agreement by which to run the business. These organizations can be structured in a variety of ways based on how the company is managed, who its members are, where the company operates, and what the main function of the business is. Those include:

  • Single-Member vs. Multi Member LLC - Whether the company is owned by one or more people. A single-member LLC has one owner, or member, that had full ownership of the company. A multi-member LLC has two or more owners who share control of the business
  • Member-Managed vs. Manager-Managed LLC - Whether the company is managed by a member (owner) or managed or by a non-member hired to perform this job.
  • Holding or Umbrella LLC - Unlike operating LLCs which offer goods or services, holding or umbrella LLCs simply own the assets (stock, real estate, patents, etc.) of other operating companies called subsidiaries. The main purpose of a holding company is to limit liability for owners of multiple businesses by separating and protecting assets from creditors or legal action against a subsidiary.
  • Domestic vs. Foreign LLC - Domestic LLCs stay in one state, while foreign LLCs do business in a state other than the one where they were formed.
  • Professional LLC - Businesses where members hold certain licenses, like doctors and lawyers, are formed as PLLCs.
  • Anonymous LLC - Currently only available in New Mexico, this structure limits the company’s ownership details to the public.

Taxation

One of the main benefits of registering a business as an LLC under the default classification is the pass-through taxation, where owners avoid double taxation because, unlike corporations, they're not taxed at the company level and then again at the personal level. However, according to Will Lopez, CPA and Head of Accounting at Gusto, a payroll, benefits, and onboarding platform, these benefits will also depend on the tax classification of the LLC. "Small business owners should work with tax accountants to decide how they should be taxed," said Lopez.

In general, LLCs can be taxed by the IRS via four distinct classification options: single-member sole proprietorships, multiple-member partnerships, s-corporations, and c-corporations.

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How Long Does It Take To Form An LLC?

The time that it takes to form an LLC varies by state. If the state accepts online filings, an LLC can usually be formed within minutes of submitting the full documentation. States that do not accept online filings generally accept faxed filings. As for one-time registration fee and costs, Thompson estimates that they generally average $200, but it varies by state.

Although you do not necessarily need a lawyer to form an LLC, these are legally binding documents, so it’s advisable to consult with one before submitting your application.