What is an LLC?

A limited liability company, also known as an LLC, is a common type of business structure. LLCs are formal business entities that create a full legal separation between the owner(s) and the company.

In form, function, and setup, LLCs fall in between full corporations and sole proprietorships. They maintain much of the same low administrative overhead and tax benefits of sole proprietorships, while also offering the same liability protection that full corporations possess. This makes them a popular choice for entrepreneurs when choosing a structure for their new company.

Who can run an LLC?

Unlike sole proprietorships, which are by definition run by a single owner, LLCs offer businesses more ownership and management opportunities.

The individuals who own and manage LLCs are called members. An LLC can still be owned and operated by a single member, who is responsible for all decisions, operations, and obligations. They can also be operated by multiple members, who all share responsibilities according to the LLC’s operating agreements. There is no limit to the number of members an LLC can have.

Additional management structures are permitted, including ones where members manage the LLC’s operations themselves, or where they hire separate managers to handle the day-to-day decisions.

Advantages of LLCs

For new businesses, LLCs can be an attractive option because of the combination of ease and legal protections they provide. These advantages include:

Personal liability and legal protection

Unlike sole proprietorships, LLCs offer personal liability protection for the members. Since an LLC is legally distinct from the owners, the members are not personally responsible for any losses or legal liabilities. Creditors, therefore, cannot pursue personal individual accounts or assets to settle financial and legal burdens.

Lower barriers to entry

Starting an LLC requires a few more administrative and regulatory requirements than sole proprietorships, but still fewer than with a full corporation. LLCs need to register with the state, pick a unique name, and draft an operating agreement that determines how the company will be run. Certain business licenses may also be required depending on the state. One bonus is that because the company name is registered with the state, it is protected from unauthorized use by another company.

Flexible tax and financial options

LLC members can receive the tax benefits of sole proprietorships without the liability risk. LLCs have the choice of filing taxes through the members’ personal tax returns, avoiding potential double taxation and benefiting from lower personal tax rates. They also have the ability to choose how profits are distributed, which are not required to follow ownership percentages.

Disadvantages of LLCs

LLCs do carry some drawbacks that should be strongly considered by company owners:

  • Industry limitations: Depending on the state, some types of companies (such as banks and insurance companies) cannot be LLCs.
  • Ownership restrictions: With multiple-member LLCs, ownership control is diluted among the members and many critical decisions have to be agreed upon.
  • Ongoing administrative requirements: While getting started is relatively easy, LLCs still have registrations and filings to maintain, and some states may require them to produce formal annual reports every year.

LLCs strike a unique balance in the business world, offering a blend of flexibility, ease of management, and legal protections. They stand out as a middle ground between the simplicity of sole proprietorships and the comprehensive structure of corporations. While they do present certain limitations and require ongoing administrative attention, the benefits of personal liability protection and tax flexibility make LLCs a compelling option for many entrepreneurs.