LLC vs Corporation – Truths and Myths
Many business owners often ask me the question, “which entity is better for my business, an LLC or a Corporation?” The truth of the matter is, it depends. In this article, I will address three truths and myths that will be helpful for all business owners.
1. Truth or Myth? An LLC provides more liability protection than a Corporation. This is a MYTH.
The owners of both LLCs and corporations are protected from personal liability for business debts or lawsuits. This means that if the business is sued or faces collection action from creditors, your personal assets—such as your house, your car, and your personal bank accounts—are safe. You may, however, lose the money that you have invested in the business. Florida treats creditors of a single-member LLC differently than creditors of multiple member LLCs. Unlike some other states, Florida does not permit the personal creditors of a member of an LLC with multiple owners to foreclose on that owner’s LLC ownership interest, or get a court to issue a turnover requiring the debtor-member to transfer his or her entire LLC interest to the creditor to satisfy the judgement. Florida LLC law was amended in 2014 to recognize this fact: It provides that the charging order is not the only remedy a judgement creditor may use against a single-member LLC owner. If a charging order proves to be ineffective, the creditor may obtain a court order that the single-member LLC interest be sold at a foreclosure sale.
Which is better? As a business owner, you will receive the same type of liability protection regardless of whether you form an LLC or corporation. However, in Florida, a single-member LLC provides the least protection versus a multi-member LLC or corporation.
2. Truth or Myth? The Ownership rules are the same for an LLC and Corporation. This is a MYTH.
The nature and number of owners can impact which entity choice is preferable.
– LLCs—there are no limits on the type or number of owners in an LLC. Thus, C or S corporations for example, can be LLC owners.
– Corporations— there are no limits on the number of owners in a C Corporation. However, there are limits on the type and number of owners in an S corporation. There can be no more than 100 owners, although family members are counted as one owner. There can be no nonresident aliens as owners; only U.S. citizens and residents are permissible S corporation shareholders. S corporations cannot be owned by C corporations, other S corporations, LLCs, partnerships or any trusts. There can be no corporations or partnerships as owners of the S Corporation. An LLC does not have these ownership restrictions. LLCs are allowed to have subsidiaries without restriction. S corporation stock is freely transferable, as long as IRS ownership restrictions are met. LLC membership interest (ownership) typically is not freely transferable; approval from other members is often required.
Which is better? It may not matter in most situations. However, where S corporation rules forbid a certain type of owner, the LLC allows it.
3. Truth or Myth? An LLC can be treated as a C Corporation or S Corporation for tax purposes. This is TRUE.
Corporations can be taxed in one of two ways:
– Any corporation can be taxed as a C corporation. A C corporation pays corporate taxes on its profits. If shareholders receive dividends, they pay personal income tax on them. This double taxation of dividends is often cited as a disadvantage of C corporations.
– Some corporations can choose S corporation taxation instead. An S corporation doesn’t pay corporate income tax. Instead, all of its profits pass through to the shareholders, who pay personal income tax on them. This “pass through” taxation often saves money, but not all corporations can take advantage of it. For example, corporations that have more than 100 shareholders, more than one class of stock, or foreign shareholders cannot choose S corporation taxation.
– LLCs do not have their own tax classification. Usually, single-member LLCS are treated as a pass-through entity and a Disregarded Entity for Income Tax Purposes. With pass-through taxation, taxes are not paid at the business level. If you choose to become an LLC, income/loss would be reported on your personal tax return. If any taxes were due, they would be paid at the individual level, similar to sole proprietorships. Multi-member LLCs are taxed as though they were partnerships. The LLC’s income and expenses are reported on the members’ personal income tax returns, and each member pays tax on his or her share of the profits. However, an LLC can also choose to be taxed as either an S corporation (if it qualifies) or a C corporation.
Which is better? Here are some things to consider:
– Outside investors may prefer that a business be a C corporation.
– S corporations offer tax savings for many small businesses, but a C corporation can be a good choice for a business that plans to keep cash in the company instead of distributing it to owners.
– LLCs offer pass-through taxation without the ownership restrictions that are imposed on S corporations. A business that can’t be an S corporation might still have pass-through taxation if it is set up as an LLC.
– If the owners work in the business, they may save on self-employment taxes by setting up an S corporation instead of an LLC.
So, LLC vs. Corporation, which is better for your business? Although corporations and LLCs offer the same liability protection, there is a difference between LLCs and Corporations. The one you choose for your business will depend on the number of owners you have, your plans for expansion or outside investment, the way you plan to run the company, and the tax consequences of each choice.
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