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What is a Limited Liability Company?

A limited liability company (LLC) is a business structure in the United States that combines elements of corporations and partnerships or sole proprietorships. LLCs are regulated by state law, and regulations vary significantly between states.

Structure and Formation

An LLC is formed by filing articles of organization with the state and paying the required filing fee, which ranges from $40 to $500 depending on the state. Most states also require LLCs to have a registered agent with a physical address in the state of formation.

LLCs can have one or more owners, referred to as "members." There is no maximum limit on the number of members. Members can be individuals, corporations, other LLCs, or foreign entities. Most states permit single-member LLCs (SMLLCs).

Limited Liability Protection

The primary characteristic of an LLC is limited liability protection. Members are typically not personally responsible for the company's debts and liabilities. This protection means that if the LLC incurs debt or is sued, the members' personal assets are generally exempt from any claims.

This protection has limitations. Members can be held personally liable in cases of:

  • • Personal guarantees on loans or contracts
  • • Fraudulent or illegal actions
  • • Commingling of personal and business assets
  • • Failure to maintain the LLC as a separate entity (piercing the corporate veil)

Taxation

By default, LLCs are treated as pass-through entities for tax purposes. This means:

  • • Single-member LLCs are taxed as sole proprietorships
  • • Multi-member LLCs are taxed as partnerships
  • • Profits and losses pass through to members' personal tax returns

LLCs can elect alternative tax treatment by filing the appropriate forms with the IRS:

  • • Election to be taxed as a C corporation (Form 8832)
  • • Election to be taxed as an S corporation (Form 2553)

Management Structure

LLCs can be member-managed or manager-managed:

Member-managed:

All members participate in day-to-day operations and decision-making. This is the default structure in most states.

Manager-managed:

Members appoint one or more managers (who may or may not be members) to run daily operations. Members retain authority over major decisions.

The management structure is typically outlined in an operating agreement, though such agreements are not required in all states.

Advantages

  • ✓ Limited liability protection for members
  • ✓ Pass-through taxation avoiding double taxation
  • ✓ Operational flexibility with fewer formalities than corporations
  • ✓ No ownership restrictions unlike S corporations
  • ✓ Flexible profit distribution not required to be proportional to ownership
  • ✓ No requirement for boards of directors or annual meetings

Disadvantages

  • × Limited life in many states (may dissolve upon member departure)
  • × Self-employment taxes apply to all income for active members
  • × Varying state laws create complexity for multi-state operations
  • × Cannot issue stock limiting capital-raising options
  • × Some states impose franchise taxes or LLC fees
  • × Foreign qualification required to operate in states other than formation state

Common Applications

LLCs are commonly used for:

Small businesses and startups

Professional services (consulting, marketing, design)

Real estate holdings and investment properties

Joint ventures and investment groups

Holding companies for assets

Freelance and independent contractor businesses

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