Startup or LLC-What’s the Best Option for You

If you’re considering starting a business, you hear a lot of terms thrown around, like startup and LLC. A startup actually just refers to any new business, while a limited liability company (LLC) is a type of business entity. Any startup can choose to be formed as an LLC. If you start a business, and you don’t form a business entity, your startup will be considered a sole proprietorship.  Here will discuss why you might want to set up an LLC for your new business, rather than running it as a sole proprietorship.

Sole Proprietorship

A sole proprietorship is the simplest type of business entity to have and operate. It is a business with one owner that has not formed as an LLC or corporation. As we stated, if you start doing business and don’t form a business entity, you are automatically considered a sole proprietorship by the state and the IRS. 

There is no paperwork to file. You and the business are the same in a sole proprietorship, which means you are personally liable for the debts and obligations of the business. This means your personal assets could be at risk if you can’t pay your debts or are sued. 

In a sole proprietorship, the business name is your name, unless you register a DBA. “DBA” stands for “doing business as.” It’s simply a name that is registered with the state for a company to do business under that is not its legal business name. For instance, a sole proprietorship run by John Carter might file a DBA to operate as “Carter’s Print Shop”. Without the DBA, the company must be run as “John Carter”. You can register a DBA by visiting your secretary of state’s website. Usually, a small fee is charged. 

With a sole proprietorship, you don’t have to file a business tax return. All the income of the business is reported on your personal tax return on a Schedule C and taxed at your personal tax rate.

Limited Liability Company (LLC)

An LLC is a great option for startups and a common choice. An LLC is created by filing articles of organization with your state. Fees to form an LLC vary by state and range from $70 to $500. An LLC offers personal liability protection for owners and more flexibility than some other business entities, particularly in terms of taxes. The LLC itself does not pay taxes. The LLC is a “pass-through” entity, meaning that income passes through the business to the owner or owners, who report it on their personal tax returns. 

Your LLC can have a single member or multiple members, all of whom have personal liability protection. This is the main difference between an LLC and a sole proprietorship.

Benefits of an LLC

Ease of Formation

An LLC is simple to form.  ou only need to file articles of organization with your state and have an LLC operating agreement to define ownership percentages and owner roles and responsibilities. No annual meetings are required, as they are with a corporation, nor do you need a board of directors. It’s also less expensive to form an LLC. Corporations and partnerships are best formed with the assistance of an attorney, which is expensive. 

Credibility of Your Startup

An LLC has the advantage of having more credibility to customers and vendors than a sole proprietorship. People tend to see an LLC more as a more established company, than a sole proprietorship that’s a one-person show. 

Management Control

In an LLC, you can be the only owner just like a sole proprietorship so that you have full control of the business. If you have more than one owner, you can structure the management any way you choose within your operating agreement, similar to a limited liability partnership where partners share control. You can designate owners (members) as managers, or you can hire outside managers. You can also structure the profit sharing between owners any way that you choose. 

Limited Personal Liability

Unlike a sole proprietorship, an LLC is considered a legal entity that is separate from you. Your personal assets are protected because you are not personally liable for the company’s debts or legal liabilities. In a sole proprietorship or general partnership, your personal assets, including your home, are at risk if there are unpaid debts or legal liabilities. There are some instances in which an LLC owner, however, could have personal risk. For example, if you are asked to personally guarantee a business loan, which is common, you are personally liable for that debt.

Tax Benefits

An LLC is considered a “pass-through” entity, meaning income passes through the business to the owners for tax purposes. The LLC is not a taxable entity, so all income is reported on the tax return of the owner or owners and taxed at their personal income tax rate. In the case of corporations, the corporation is taxed as well as the dividends shareholders receive, which is sometimes referred to as double taxation. This is why startups often set up an LLC rather than a corporation. 

Profit-Sharing Options

Most businesses split profits based on the financial contributions of owners. With an LLC, in the operating agreement, the owners can specify any profit-sharing agreement that they choose, as we stated earlier. One owner can take a percentage share of profits greater than their ownership interest, while another owner takes less, which may occur when one owner is more actively involved in the business than the other. So even if you have 50-50 ownership, which means that if the LLC is sold, you’re each entitled to half, you could have a profit split of 60-40 or 80-20, or whatever you choose. 

In Closing

You can choose any type of business structure for your startup. An LLC is simply one of your options.  As you can see, an LLC has many benefits, and personal liability protection is arguably the most important benefit. Forming an LLC is not complicated. You can generally do so online through your secretary of state’s website. It takes less than an hour, and your LLC will usually be approved within a few weeks, depending on your state’s filing time. Because of the many benefits and the simplicity of it, it’s definitely worth considering!