Limited Liability Companies and corporations can trace their origins to European venture capitalism in the 17th century when shipping companies pooled investor money together and limited the investors’ liability to the stake of their investment. If a ship had a successful venture, its investors would enjoy the same percentage of profits as their percentage investment stake in the company. If, unfortunately, the ship was lost at sea or incurred debts to others, the investors were limited in liability to losing the money they invested.
Benefits of an LLC Business
In today’s world, business owners can form an LLC to limit liability from a business to their investment and enjoy pass-through treatment under IRS tax regulations. Another benefit of the limited liability company is that you don’t need to hold as many records, board meetings and approvals as a corporation.
For example, a corporation has to have an annual meeting of the Board of Directors. The company appoints executives to serve as directors of the company and vote on how the business will be operated. When changes are needed to the way the Company operates or it has significant changes in its ownership or management compensation, it needs to vote on and approve those transactions by a majority vote of the Board of Directors. A Limited Liability Company is not required to have annual meetings. Typically, the LLC files Articles of Organization and then, shortly after that, drafts an operating agreement. LLC members are free to run a business without the strict formality of a corporation.
LLC Operating Agreement
Usually, an LLC will draft an Operating Agreement that will dictate the contributions of its members and establish its ownership. Some managers may run the company daily and contribute “sweat equity”, while others may only contribute financial investment with limited involvement in the company and its day-to-day operations. Sometimes there will be a mix.
The Operating Agreement can help the company and its managing members outline how the business will be structured, how it can determine its value, and who has the authority or responsibility to serve in different roles for the company. The operating agreement can establish methods to value the Company at a later date when members may wish to exit the company and be “bought out.”
California LLC Statement of Information
When there are significant changes in the management of a corporation, it needs to update its statement of information with the State of California. Corporations must file a statement of information every year, whereas an LLC needs to file a Statement of Information every other year.
When ownership changes in an LLC, it simply needs to update its operating agreement through an amendment reflecting the changes in the company’s ownership. When a corporation changes ownership through stock transfer, it needs to keep diligent records of that transfer, agree upon methods of company stock valuation, and major developments in corporate governance by director approval or their unanimous written consent.
LLC vs. Corporation
A corporation may be a better idea for your company if you plan on issuing stock or plan on growing the business in the future to take on investors. Also, in California a corporation is mandatory if your company is a professional corporation of state-licensed professionals (for example, doctors, lawyers, engineers or accountants) that cannot be organized as a limited liability company.
LLC managers should be given a reasonable salary while working at the company, and the company may retain or distribute its profits or losses to its owners, pro rata. Pass-through tax treatment allows the business to have its tax liability pass through the business, which may pay nominal taxes, to its control person, usually its owners, in proportion to their ownership stake in the company.
For more information on tax issues, our firm can refer you to local accountants.
As you can see a LLC will give a small to medium sized business much greater flexibility and less red tape than you would encounter operating your business as a corporation.
- Filing your Articles of Organization
- Drafting your Company’s Operating Agreement
- Getting an EIN number
- Opening a company bank account
- Drafting Employment Agreements
- Drafting and reviewing contracts
- Transferring ownership of your company
- Insuring against risk
- Winding up your company
- Serving as General Counsel to your company
Thank you for watching this brief informational video. If you would like to learn more, contact us today to develop a strategy to grow and organize your business into its ultimate potential.