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The Advantages and Disadvantages of LLC Business Structure

Posted on 04/01/202104/01/2021 by Dallas Nichols

Limited liability protection, tax efficiency, and operational flexibility of a partnership are the main features of an LLC business structure. A Review of IX GLOBAL states that an LLC is a choice for businesses hoping to flow through discounts to its investors since the LLC provides complete liability protection to every one of its associates. Unlike shareholders at a business, LLC’s owners are not taxed as a separate business entity. Instead, all profits and losses are “passed through” the organization to each member of the LLC. LLC members report losses and gains in their federal tax returns, just like the proprietors of a venture can. In this post, we will discuss both the benefits and pitfalls of an LLC structure.

An Overview of LLC Business Structure

Four Best Types of Loans for Small BusinessA Limited liability company (LLC) is a type of business structure that provides limited liability protection and pass-through taxation. Like corporations, the LLC officially exists as a separate entity from its owners. Therefore, the owners are usually not responsible for the debts and liabilities of the business. Since its income is not taxed at the entity level, LLC allows for pass-through taxation.

However, a tax return for the LLC must be completed if the LLC has more than one owner. Any LLC income or loss as shown on this return is passed through to the owner(s). The owners, also called partners, must report the profit or reduction after the fact on their tax returns and pay crucial taxes.

Advantages

The benefits of forming an LLC – as opposed to operating as a sole proprietorship, general partnership, or corporation – often outweigh any perceived advantages.

Limited Liability. Participants (as the owners of the LLC are called) are protected from liability for the functions of the LLC and its employees. Creditors cannot access the personal assets (home, savings accounts, etc.) of these owners to pay the debts of the company. Note: You can buy an LLC (along with some businesses) to reduce your limited liability.

Flexible Affiliation. Clients can be individuals, partnerships, trusts, or corporations, and there is no limit to the number of affiliates. S corporations (i.e., a corporation that has elected to be taxed as a pass-through entity under Subchapter S of the Internal Revenue Code) are much more limited as to who can be a shareholder, and there is a limit to the number. When it comes to management, members can manage the LLC or even select a management group to do so. Corporations, on the other hand, are managed by a board of directors, not shareholders.

thumbs upPass-Through Taxation. LLCs typically do not pay taxes at the business entity level. Any income or decrease in business will likely be reported on the owners’ tax returns and passed on. Tax dues are paid at the individual level, and corporations that cannot or choose not to be taxed as an S corporation (these are known as C corporations because they are taxed under Subchapter C of the IRC) are taxed at the business entity level and their shareholders are taxed on the income distributed to them.

Greater Validity. Forming an LLC can help a new business gain more credibility than if the business is run as a sole proprietorship or partnership. Part of credibility is the limited compliance requirements in which LLCs have fewer state-imposed compliances and ongoing formalities than sole proprietorships, general partnerships, or corporations (whether taxed as S corporations or C corporations).

Disadvantages

There are also some disadvantages to forming an LLC, though in many cases the advantages outweigh the disadvantages.

Cost. Forming and maintaining an LLC is usually more expensive than a sole proprietorship or general partnership. States charge an initial formation fee. Many states also charge ongoing fees, such as annual franchise or information fees.

Transferable Ownership. Ownership of an LLC is usually more difficult to change than ownership of a corporation. In the case of corporations, the corporation can provide stock to increase ownership and, unless there is a shareholder agreement to the contrary, shareholders can sell their shares to someone else.

Members Must Recognize Profits Promptly. A C-corporation does not have to immediately distribute its profits to its shareholders as a dividend. It follows that investors in a C corporation are not always taxed on the organization’s profits. Because an LLC is not subject to double taxation, the LLC’s profits are automatically included in a portion of income.

Fewer Fringe Benefits. Employees of a C corporation who receive health benefits, such as group insurance, health plans, Medicare, and parking, must treat these benefits as taxable income. The same is true for employees who own more than two percent of an S corporation. However, employees of a C corporation who receive fringe benefits do not have to report these earnings as taxable income.

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