What an LLC is
A limited liability company is a business entity created under state law. You form it by filing a short document with your state, usually called Articles of Organization or a Certificate of Formation. Once it's filed, the LLC is a separate legal "person": it can sign contracts, own property, open bank accounts and be sued in its own name.
The owners are called members. An LLC can have one member (a single-member LLC) or many, and members can be individuals or other companies.
1. Your personal assets are shielded
This is the main reason people form an LLC. As a sole proprietor, you are the business: if a client sues or the business can't pay a debt, your house, car and savings are on the line. With an LLC, the company's debts and lawsuits generally stay with the company. Your personal exposure is limited to what you've invested in it.
That protection isn't automatic forever. Courts can "pierce the veil" and hold owners personally liable when the LLC is treated as an extension of the owner. You keep the shield by:
- Keeping business and personal money in separate bank accounts
- Signing contracts in the LLC's name, as a member or manager
- Keeping the LLC adequately funded and in good standing with the state
- Carrying appropriate business insurance
An LLC doesn't protect you from your own professional mistakes or personal guarantees. If you personally guarantee a loan or lease, or you're negligent in your own work, you can still be held responsible. That's what insurance is for.
2. Taxes stay simple, and flexible
By default the IRS doesn't tax an LLC as a separate entity. Profits "pass through" to the owners, who report them on their personal returns. That means no corporate-level tax and no double taxation on the same dollar.
| LLC type | Default federal tax treatment | What you file |
|---|---|---|
| Single-member | Disregarded entity, taxed like a sole proprietorship | Schedule C with your Form 1040 |
| Multi-member | Taxed as a partnership | Form 1065, with a Schedule K-1 for each member |
| Any LLC, by election | Taxed as an S corporation or C corporation | Form 2553 (S corp) or Form 8832 (C corp) |
Pass-through owners may also qualify for the qualified business income (QBI) deduction, which can let you deduct up to 20% of qualified business income, subject to income limits and rules for certain service businesses.
3. You can elect S-corp status as you grow
As a default LLC owner, you pay self-employment tax (15.3% for Social Security and Medicare, up to the annual wage base) on essentially all of your net profit. Once profits are healthy, many owners elect to have their LLC taxed as an S corporation.
With an S-corp election, you pay yourself a reasonable salary through payroll, which is subject to payroll taxes, and take remaining profit as distributions, which aren't subject to self-employment tax. For a profitable business, that difference can be thousands of dollars a year.
The catch: you'll need to run payroll, file a separate business return (Form 1120-S) and set a salary the IRS would consider reasonable for your work. Talk to a CPA before electing; it's rarely worth it until profit is well above what a reasonable salary would be.
4. Clients, banks and vendors take you more seriously
"Your Company LLC" on an invoice reads differently than a personal name. An LLC also makes it easier to:
- Open a business bank account and accept card payments under the company name, using your LLC's own EIN
- Build business credit separate from your personal credit
- Sign leases and vendor contracts as a company
- Work with larger clients who prefer, or require, contracting with an entity
5. More privacy, especially with a registered agent
Every LLC must list a registered agent with an in-state street address, and that address goes on the public record. If you serve as your own agent from home, your home address is what anyone searching the state database will see.
Hiring a commercial registered agent puts their address on file instead. Pair that with a business mailing address and your personal address stays out of most public filings. Some states, such as Wyoming and New Mexico, don't require member names in the formation document at all.
6. Far less paperwork than a corporation
Corporations must hold annual shareholder and board meetings, keep minutes and follow more formal rules. LLCs generally don't. Your operating agreement sets the rules, and you can divide profits, voting and management however the members agree, rather than strictly by ownership percentage.
Ownership is flexible too. You can add members, bring in a partner or sell your interest, all spelled out in your operating agreement.
The trade-offs
An LLC is a good fit for most small businesses, but it isn't free and it isn't zero-maintenance.
- State fees. Filing fees range from about $35 to $500 depending on the state, and most states charge an annual or biennial report fee. California charges an $800 minimum franchise tax every year.
- Ongoing compliance. Miss an annual report and the state can dissolve your LLC, taking your liability protection with it.
- Self-employment tax. Without an S-corp election, all of your profit is still subject to self-employment tax.
- Raising venture capital. Investors generally want a Delaware C corporation. If that's your plan, an LLC may not be the right starting point.
- Publication rules. A few states, including New York, require new LLCs to publish a notice in local newspapers, which can cost hundreds of dollars or more.
Is an LLC right for you?
An LLC usually makes sense if any of these describe you:
- You earn money from clients or customers and could be sued over your work or products
- You're signing a lease, hiring help or taking on business debt
- You own rental property you want to hold separately from your personal assets
- You're partnering with someone and want ownership in writing
- You want a clean line between business and personal finances at tax time