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The limited liability company (LLC) is a distinct business
entity that combines the corporate advantage of limited liability protection with
"pass-through" taxation, the method of taxation afforded to both general
partnerships and S corporations.
Like corporations, LLCs come into existence after making a
filing with the appropriate state body, typically the Secretary of State, and paying the
necessary state filing fees. The LLC formation documents are typically called articles of
organization or a certificate of organization.
In terms of taxation, the LLC's income is not taxed at the
entity level as is that of a C corporation. While the LLC does complete a tax return, the
income or loss of the LLC as shown on this return is passed through the LLC and is
reported on the owners' individual tax returns. The LLC's owners then pay taxes on the
LLC's profits at the individual tax level. LLCs can elect with the Internal Revenue
Service (IRS) to be taxed like a C corporation, but this is not overly common.
Other advantages of LLCs include:
- Members are typically not held personally responsible for
the debts and liabilities of the company.
- Forming an LLC can help establish credibility for a new
business with potential customers, employees, vendors, and partners.
- There are generally no restrictions on the number of members
allowed.
- LLCs have flexibility in structuring the management of the
company.
- LLCs do not require as much annual paperwork or have as many
formalities as corporations and S corporations.
Some disadvantages of LLCs include:
- LLCs are more expensive to form than sole proprietorships
and general partnerships.
- LLCs face more ongoing requirements, such as state annual
report filings, than sole proprietorships and general partnerships. " Ownership is
typically harder to transfer than with a corporation.
- Because the LLC is a newer business structure, there is not
as much case law to rely on for determining precedent.
Regarding the ownership of an LLC, the owners are called
members. Members are analogous to shareholders in a corporation or partners in a
partnership, depending on how the LLC is structured. Members will more closely resemble
shareholders if the LLC utilizes a manager or managers because the members will not
directly participate in the management of the LLC. If the LLC does not utilize managers,
then the members will more closely resemble partners because they will have a direct say
in the decision-making of the company. An LLC must specify at the time of formation
whether it will be managed by members or managers.
A member's ownership of an LLC is represented by
"membership interest," just like a partner's interest in a partnership or a
shareholder's shares of stock in a corporation.
When evaluating whether the LLC is the right business
structure for your particular business, it is advisable to first determine the goals of
your business, and then to assess the advantages and potential disadvantages of the
different business structures in relation to those goals. You may also wish to seek the
advice of an attorney or accountant.
Professional corporations (PCs) and professional limited
liability companies (PLLCs) are corporations and limited liability companies organized for
the purpose of providing professional services. What services constitute professional
services are defined by state law. Typically professions that require a license, such as
doctors, lawyers, accountants, architects, or engineers are required to form a PC or PLLC.
The formation of a professional entity is very similar to
the formation of a standard corporation or LLC. The appropriate formation document, the
articles of incorporation for a corporation or the articles of organization for an LLC,
must be filed with the state and the necessary state filing fees be paid. However, with
professional entities, an additional approval may be required by the proper state
licensing body before the document can be filed with the Secretary of State. Further, the
formation documents typically must contain the signature of a licensed professional in the
same field of service as the incorporator. That person's license number may also be
required. For example, a PC being formed to provide chiropractic services may require the
signature of a licensed chiropractor as incorporator. Because of these additional
requirements, the filing time for professional entities may be longer than the filing time
for standard business entities.
The corporate or LLC name ending is also different with
professional entities. Standard business corporations can typically end their name with
Corporation, Incorporated, Company, Limited, or an abbreviation thereof. With a
professional entity, the ending typically must be Professional Corporation or the
abbreviation P.C. Some states have different names for professional corporations, such as
service corporation or professional association. Professional limited liability companies
typically use the name ending Professional Limited Liability Company or PLLC.
Some states also require that the type of profession be
listed in the name. For example, a PC organized to provide medical services might need to
include a word such as medical, health or something similar in order to designate the type
of service being provided.
Generally, there are few significant differences in the
operation of a professional corporation or limited liability company from a standard
corporation or LLC. These entities are taxed like their general business counterparts, and
PCs typically are allowed to make the S corporation election with the Internal Revenue
Service (IRS). PCs and PLLCs also face the same ongoing formalities as those of the
standard business entities.
One exception is that some states restrict who may be an
owner or a director (manager for LLC) of a PC or PLLC. Typically, only licensed
practitioners of the specific service that the corporation provides may own stock in the
corporation and serve on the board of directors or be a member of the PLLC. For example,
only licensed doctors provide medical services may own the stock of a PC that provides
medical services.
Another item to keep in mind is that not all states allow
the formation of a PLLC. This is becoming more widely recognized, but has not yet been
fully adopted.
A nonprofit corporation is a corporation that is formed for
purposes other than generating profit. Nonprofit corporations are formed pursuant to
different state law than standard for-profit corporations. There are many types of
nonprofits, such as churches or church associations, charities, schools, medical
providers, legal aid societies, volunteer services organizations, professional
associations, research institutes, museums, and in some cases sports associations.
The most common type of nonprofit is the 501(c)(3)
nonprofit, which are organized under Section 501(c)(3) of the Internal Revenue Code. These
nonprofits are created for some religious, charitable, educational, literary, or
scientific purpose allowed by this section of the code. As mentioned above, nonprofits can
be organized for other purposes. For example, Chambers of Commerce are 501(c)(6)
nonprofits and cooperative hospital service organizations are 501(e) nonprofits.
The first step in creating a nonprofit corporation is
filing the nonprofit articles of incorporation with the appropriate state agency, often
the Secretary of State, and paying the required state filing fees. The articles of
incorporation for a nonprofit must typically include detailed information regarding the
business purpose so the state can ensure the proposed activities of the corporation will
comply with the state's nonprofit statutes.
Nonprofits do not automatically become tax exempt upon
formation with the state. In order to become a tax-exempt nonprofit corporation, the
corporation must file for both federal and state tax-exempt status. To apply for federal
tax-exempt status, Form 1023 must be completed and submitted to the IRS. This is a very
detailed process that can take months to complete, and often four to six months to obtain
approval from the IRS. Additionally, the IRS charges a fee when Form 1023 is filed. The
fee is based on the nonprofit corporation's gross receipts in the first five years of
existence. To apply for tax-exempt status at the state level, contact your state's
department of taxation for information on its process.
As with standard corporations, nonprofits must also comply
with ongoing requirements imposed by the states, and ongoing formalities required of the
corporate structure. Many states require nonprofits to complete annual reports or
semi-annual reports and to pay a report filing fee. These reports allow the states to keep
updated information on the nonprofit. Nonprofits are also required to hold and properly
document annual meetings of directors and members. Similar to for-profit corporations,
nonprofits offer limited liability to the directors and members, meaning that the personal
assets of these parties typically cannot be used to satisfy the debts and liabilities of
the nonprofit. However, like for-profit corporations, nonprofits must follow the necessary
formalities to demonstrate that they are acting like a corporation and should continue to
receive the benefits the nonprofit corporation presents.
For questions on whether the nonprofit corporation
structure is best for your organization, it is best to seek the advice of an attorney or
accountant. You can also learn more about nonprofits by visiting Business Filings'
nonprofit frequently asked questions --
http://www.bizfilings.com/learning/nonprofitfaq.htm.
A subchapter S corporation is a standard corporation that
has elected a special tax status with the Internal Revenue Service (IRS). S corporations
carry the same benefits as C corporations, such protecting the shareholders' (or owners')
personal assets from the debts and liabilities of the business, unlimited life and tax
deductibility of certain business expenses. The primary differences between S corporations
and C corporations are the way they are taxed and also the ownership restrictions S
corporations face.
When deciding which entity structure is most appropriate
for their business, small business owners often view the potential double taxation of
profits associated with C corporations as the primary disadvantage to forming a standard
corporation. With C corporations, the profits are taxed first at the corporate level, and
then taxed again at the individual level if they are distributed to shareholders in the
form of dividends. Shareholders must report dividends as personal income and pay taxes on
that income.
Double taxation can be eliminated by completing the S
corporation election with the IRS. S corporations are taxed as pass-through taxation
entities, similar to general partnerships and most limited liability companies. While the
profits of an S corporation are reported at the corporate level, taxes are not paid at the
corporate level. Instead, the profits are passed-through to the individual tax returns of
the shareholders and are taxed at the individual rate. If the S corporation reports a
loss, the amount of the loss is also passed-through and reported on tax returns of the
shareholders.
Keep in mind, not all C corporations can make the S
corporation election with the IRS, as the IRS has placed restrictions on S corporations.
Current restrictions include:
- Shareholders must number fewer than 75, and all shareholders
must consent in writing to the S corporation election.
- Shareholders must be individuals, estates, or certain
qualified trusts.
- Shareholders cannot be non-resident aliens.
- S corporations can have only one class of stock
(disregarding voting rights).
To be classified as an S corporation, a corporation must
make a timely filing of Form 2553 with the IRS. IRS instructions indicate that the form
must be completed and filed:
- At any time before the 16th day of the 3rd month of the tax
year if filed during the tax year the election is to take effect, or
- At any time during the preceding tax year. An election made
no later than 2 months and 15 days after the beginning of a tax year that is less than 2
½ months long is treated as timely made for that tax year.
An election made after the 15th day of the 3rd month but
before the end of the tax year is effective for the next year. For example, if a calendar
tax year corporation makes the election in April 2005, it is effective for the
corporation's 2005 calendar tax year.
For questions on whether the S corporation structure is
best for your particular business, it is best to seek the advice of an attorney or
accountant.
The standard corporation, also called a C corporation, is a
very common business structure. Corporations are separate legal entities that are owned by
shareholders. Conversely, sole proprietorships and partnerships are not separate legal
entities. They are considered to be the same as the owner(s). In order to form a
corporation, the appropriate formation documents, usually called the articles of
incorporation or a certificate of incorporation, must be filed with the state and the
state filing fees be paid.
The primary advantage of incorporating a business is the
limited liability the corporate entity affords its shareholders. Typically, shareholders
are not personally liable for the debts and obligations of the corporation; thus,
creditors will not come knocking at the door of a shareholder to pay debts owed by the
corporation. In a partnership or sole proprietorship the owner's personal assets may be
used to pay debts of the business.
Other advantages of incorporating a business include:
- Incorporating may establish credibility for a new business
with potential customers, employees, vendors, and partners. " The ownership of a
corporation is easily transferable through the sale of stock.
- Corporations have unlimited life extending beyond the
illness or death of owners.
- Certain expenses, such as insurance, travel, and qualified
retirement plans are typically tax-deductible.
- Additional capital can be easily raised through the sale of
stock (shares) in a corporation.
The main disadvantage to forming a C corporation is often
considered to be the potential for double taxation. C corporations are considered
separately taxable entities by the Internal Revenue Service (IRS), and taxes must be paid
on the profits of the corporation. If a corporation then distributes its profits to
shareholders in the form of dividends, the dividend income is also taxed as regular income
to the shareholders. In this case, the corporation's profits are taxed twice, first as
income to the corporation and second as dividend income to the shareholder, creating the
"double-tax."
However, not all income a shareholder receives from a C
corporation is subject to the double tax. For example, if the shareholder is also an
employee of the corporation, that shareholder will most likely receive a salary payment
from the corporation. As long as the salary paid to the shareholder is considered by the
IRS to be reasonable (or similar to the market salary rates for that position), it is
treated as a business expense and is deductible to the corporation. This helps reduce the
amount of taxable income the corporation has.
In order to eliminate the possibility of double taxation, C
corporations can elect to be taxed as an S corporation with the IRS. With S corporations,
the profits and losses of the corporation are reported on the individual tax returns of
the shareholders, and any necessary tax is paid at the individual level. This taxation
method is called "pass-through" taxation, since the profit or loss of the
corporation is passed through to the shareholders.
Other aspects of C corporations that can be considered
disadvantages include:
- Corporations are more expensive to form than sole
proprietorships and partnerships.
- There are more corporate formalities, such as annual
paperwork, and more state and federal rules and regulations, than with sole
proprietorships and general partnerships.
When evaluating whether the corporate structure is right
for your particular business, it is advisable to first determine the goals of your
business, and then to assess the advantages and potential disadvantages of the different
business structures in relation to those goals. You may also wish to seek the advice of an
attorney or accountant. |
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