An LLC, or Limited Liability Company, combines the best parts of corporations, sole proprietorships, and partnerships into one business entity offering owners liability protection, flexible management structure, and certain tax advantages. In this article, you will learn:
LLC stands for "limited liability company." An LLC is one type of legal entity that can be formed to own and operate a business. LLCs are very popular because they provide the same limited liability as a corporation, but are easier and cheaper to form and run.
Any person starting a business, or currently running a business as a sole proprietor, should consider forming an LLC. This is especially true if you're concerned with limiting your personal legal liability as much as possible.
LLCs can be used to own and run almost any type of business. However, in some states some types of professionals must form special professional LLCs. An LLC can be used for a business of any size—from one-owner operations to businesses with many co-owners. LLCs are also the most common legal entity used to own rental and commercial property.
Personal asset protection. An LLC provides its owner or owners with limited liability. This means that means you—the LLC owner—are generally not personally liable for any debts incurred by your LLC business or most business-related lawsuits. Because you’re not personally liable, creditors or people who file lawsuits against your LLC can’t collect against your personal assets like your personal bank accounts, personal car, or home. They are limited to collecting from your LLC’s assets, like your LLC’s bank account. For more details, see “LLCs and Limited Liability Protection.”
Pass-Through Taxation. LLCs ordinarily provide their owners with pass-through taxation. The profits (or losses) the business incurs pass through the business to the owner’s personal tax return. Such profits are taxed at the owner’s personal tax rates.
Single-member LLCs (SMLLCs) are usually taxed the same as sole proprietorships. The owner reports the LLC's profits, losses, and deductions on IRS Schedule C and files it with his or her personal return. An LLC with two or more members is usually treated like a partnership for tax purposes. Again, profits or losses are reported on the owners' personal returns and taxed at their personal rates.
Because LLCs are usually pass-through entities, their owners can qualify for the special pass-through tax deduction created by the Tax Cuts and Jobs Act. This deduction took effect in 2018 and is scheduled to continue through 2025. This is an income tax deduction of up to 20% of the net business income earned by the pass-through business. For details, refer to “The 20% Pass-Through Tax Deduction for Business Owners.”
Simplicity. An LLC is the simplest business entity to form and operate. Unlike with a corporation, it is not necessary to have officers and directors, board or shareholder meetings, or the other administrative burdens that come with having a corporation.
Flexibility. LLCs provide enormous flexibility when it comes to ownership, management, and taxation. There are no minimum or maximum limits on the number of owners--also called members--that an LLC can have. Many LLCs have only one member, but an LLC can have five or ten or hundreds of members.
LLCs can be managed by their members--that is, all the owners share responsibility for the day-to-day running of the business. LLCs also have the option of designating one or more managers to run the business. The managers can be designated members, nonmembers, or a combination of both.
LLCs can also choose how they want to be taxed. They are usually taxed as sole proprietorships or partnerships, but SMLLCs and multi-member LLCs have the option of choosing to be taxed like a corporation. This is easily accomplished by filing a document called an election with the IRS. LLCs can choose to be taxed as a C corporation or an S corporation. Either way, the LLC owners ordinarily work as employees of the corporations. With C corporation taxation, the corporation pays taxes on the business profits at the corporate tax rate. The C corporation tax rate is 21%, much lower that of most individual rates. With S corporation treatment, the LLC remains a pass-through entity, with profits passed through the business to the owners to be taxed at their individual tax rates. But such distributions are not subject to Social Security and Medicare taxes. Thus, S corporation tax treatment can result in tax savings. For more details, see “Why You Might Choose S Corp Taxation for Your LLC.”
Credibility. Forming an LLC to own and run your business helps give you credibility. It makes it look like you have a real business. You'll also have a business name to use.
Cost: It generally costs more to form and operate an LLC than to be a sole proprietor or have a partnership. Filing fees must be paid to legally establish the LLC. Although not legally required, it is highly desirable for LLCs to adopt a written LLC operating agreement laying out how the LLC will be governed. Once the LLC is formed, annual fees and taxes will have to be paid to the state. These vary from state-to-state, but can be as high as $800 per year or more for highly profitable LLCs.
Investment Disadvantages: LLCs are not ideal for business owners who seek outside investors. This is particularly true if you’re looking for funding from venture capitalists, who ordinarily will only fund corporations. Corporations work best for outside investments because stock can be issued in exchange for investor’s’ money. Outside investors can invest in LLCs and receive LLC ownership interests, but this can be more complicated than with a corporation.
Starting an LLC is relatively easy. You file articles of organization or a similar document with your secretary of state’s office and then take some additional steps to get your LLC up and running.
You can legally establish your LLC in any state. But it is usually best to form it in the state where your business is located. You won’t save any money by forming your LLC in Nevada, Wyoming, or other states touted for their low-costs LLCs. You’ll still need to qualify to do business in your home state, which will require paying the same fees as an in-state LLC.
Your LLC must have a name distinguishable from (different than) that of all LLCs already on file in your state. Your name will also have to end with an LLC designator, like "LLC." Each state has its own LLC naming rules. For details, refer to “Choosing a Business Name FAQ.”
A registered agent is a person or company that agrees to accept legal papers on your LLC’s behalf. You can do this yourself or hire a registered agent company. For more information, see “What is a Registered Agent?”
You legally establish your LLC by filing articles or organization or a similar document with your state’s corporate filing office. In most states, you file with the secretary of state and the information you must provide for your articles of organization is very basic. Typically, you have to supply the LLC's name, principal office location, names and addresses of the LLC's owners, and the name and address of the LLC's registered agent. Most states provide downloadable fill-in-the-blank forms that you can file online.
All LLCs should have a written operating agreement governing the members’ relations with each other--for example, how profits will be split up, how major business decisions will be made, and the procedures for handling the departure and addition of members. If you don’t prepare an operating agreement, the default provisions of your state’s LLC laws will apply.
Even single-member LLCs should have an operating agreement because it helps show that the owner has been conscientious about organizing the LLC as a legitimate business. This helps preserve the limited liability protection afforded by the SMLLC.
You don’t file the operating agreement with the secretary of state; it is an internal LLC governing document. For more detail, see “The LLC Operating Agreement.”
EIN is short for employer identification number. If your LLC has more than one member or elects to be taxed like a corporation, it must obtain an EIN from the IRS. Single member LLCs don’t need an EIN unless they have employees. You can obtain an EIN for free at the IRS website. For details, see “Which Type of Business Entity Needs an Employer Identification Number (EIN)?”
Depending on where your LLC is located and what type of work it does, you may need a state or local business license or permit. For details, see “Licenses and Permits for Your Business.”
Each state has its own unique LLC formation requirements. To learn about the specific requirements of forming an LLC in your state, choose your state from the list below:
The cost varies from state-to-state. Generally, its costs $100 to $200 if you do all the work yourself. Most of the cost is the fee to file your articles of organization. It will cost much more if you hire a lawyer. Nolo's online LLC filing service offers packages starting at just $79.00. To learn about your state's filing fees, see "How Much Does It Cost to Form an LLC?"
The default tax regime is for LLCs with a single member to be taxed as sole proprietorships, while LLCs with multiple members are taxed like partnerships. However, LLC owners have the option of having their LLC taxed as a C corporation or S corporation. This is done by filing an election with the IRS. For details, see “How LLC Members Are Taxed.”
It is usually best to form your LLC in the state where your business is located. There are ordinarily no great advantages to forming your LLC in any other state. For more guidance, see “Where to Form Your LLC.”
No. You can form your LLC yourself. There is no requirement to use a lawyer. You can find all the information you need to form your own LLC at Nolo.com.
Both corporations and LLCs provide their owners with limited liability. But LLCs are ordinarily taxed like sole proprietorships or partnerships. In addition, LLC owners do not work as employees of the LLC—they are self-employed business owners.
Corporate shareholders who work for the corporation must be treated like employees of the corporation. For tax purposes, corporations can be C corporations or S corporations. C corporations are separate taxpaying entities with their own low 21% tax rate. S corporations are pass-through entities—profits pass through the business and are taxed at the shareholders’ individual rates. For more details, see “Corporations and S Corporations vs. LLCs.”
A sole proprietor personally owns a business and all its assets. There is no separate business entity involved. The sole proprietor is personally liable for all business debts and lawsuits. This means that creditors or lawsuit plaintiffs can reach the proprietor’s personal assets to satisfy a debt or judgment.
An LLC is a separate business entity. The LLC owns the business and all its assets. The LLC members—the owners of the LLC—run the LLC. The LLC members ordinarily are not personally liable for LLC debts and lawsuits. For more details, see “Sole Proprietorships vs. LLCs.”
In some states, individuals involved in certain types of professional practices are not allowed to form regular LLCs. Instead, they must form professional LLCs. These are LLCs specially designed for licensed professionals like lawyers, doctors, architects, engineers, accountants, and chiropractors. The main difference between professional and regular LLCs is that all the members of a professional LLC must hold a professional license. For details, see “Professional Limited Liability Companies.”
A series LLC is an LLC whose articles of formation allow for unlimited segregation of membership interests, assets, and operations into independent series. Each series operates like a separate entity with a unique name, bank account, and separate books and records. For example, series LLCs can be used by real estate investors who own multiple properties. Each series isolates and protects its properties from the liabilities of the properties in other series. Companies with different profit centers can also use series LLCs to segregate and shield each business operation. Only certain states allow series LLCs. For details, see “What Is a Series LLC?”
A single-member LLC (SMLLC) is an LLC owned by one person. SMLLCs are allowed in all states. They are treated much the same as any other LLC. However, for tax purposes, they are disregarded entities. This means they are ordinarily taxed like sole proprietorships—as if the LLC didn’t exist. For details, see “How to Form a Single-Member LLC.”
LLCs owners have great flexibility in deciding how their entity is managed. Most LLCs are member managed. With this approach all the members (owners) of the LLC share responsibility for the day-to-day running of the business. This approach is more common in part because most LLCs are small businesses with limited resources and they don’t need a separate management level to operate.
LLCs may also elect to be manager-managed. This means that only designated members, or certain nonmembers/outsiders, or a combination of members and nonmembers, are given the responsibility to run the business. The other members in a manager-managed LLC are passive investors who are not involved in business operations. This form of management may be desirable for large LLCs with many members, or where some members only want to be passive investors in the business.
For more details, see “Member-Managed LLCs Versus Manager-Managed LLCs.”
There is nothing that prevents a minor from being a member of an LLC. However, the LLC laws of some states prohibit minors under age 18 from serving as organizers to form LLCs. For details, see “Do LLC Members Need to be 18 Years Old (or Older)?”
A good liability insurance policy can shield your personal assets when limited liability protection does not. For instance, if you are a massage therapist and you accidentally injure a client's back, your liability insurance policy should cover you. Insurance can also protect your personal assets in the event that your limited liability status is ignored by a court.
In addition to protecting your personal assets in such situations, insurance can protect the LLC's assets from lawsuits and claims. But your LLC won't be protected if it doesn't pay its bills: Commercial insurance usually does not protect personal or corporate assets from unpaid business debts, whether or not they're personally guaranteed.
For more guidance, see “What Types of Insurance Does Your Small Business Need?”