What is a Limited Liability Company?

And should you consider one?

History

Wyoming was the first state to adopt an LLC statute in 1977.  However, in 1978, the IRS refused to recognize the Wyoming LLC as a flow-thru entity, taxing it as a corporation. Consequently, very few LLCs were actually formed in Wyoming.

In 1988, the IRS changed its position, agreeing to classify a Wyoming LLC as a partnership for tax purposes. Rev. Rul. 88-76.

A couple of years later, in 1991, Nevada passed its LLC statute.  N.R.S. 86.010 et. seq. Now, LLCs are common throughout the country.

What is an LLC?

An LLC is a form of business entity that you set up by filing Articles of Organization with the Nevada Secretary of State. It is governed by an “operating agreement” similar to a partnership agreement or bylaws of a corporation.  An LLC has the corporate characteristic of limited liability for all investors, meanimg that the LLC members are not personally liable for the LLC’s debts or liabilities except to the extent of their investment and capital commitment.  An LLC also has the flow-through income tax attributes of a partnership.  An LLC in the state of Nevada may have a perpetual existence.

Who can be a member of an LLC?

One or more persons can form an LLC for any lawful purpose except banking or insurance.  A corporation, general partnership, S-corporation, limited partnership, or trust can also be a member of an LLC.

Also, an existing corporation or partnership can be changed, or converted, to an LLC, although there may be some adverse tax consequences.  Make sure you consult a tax specialist before converting an existing corporation or partnership to an LLC.

What are the advantages to an LLC?

An LLC has several advantages over a “C” Corporation or an “S” Corporation.  An LLC has no requirement to hold annual meetings or to comply with other operational restrictions imposed on corporations such as preparing annual minutes, giving notice to shareholders, or voting.  An LLC does not have any restrictions on the type and number of shareholders, like an “S” Corporation.

For income tax purposes, an LLC with two members is normally treated as a partnership and thereby avoids the double taxation of “C”corporations.  A single member LLC is disregarded by the IRS for income tax purposes unless another election is made. The LLC is very flexible, allowing you to elect to be taxed like an “S” Corporation or a “C” Corporation if desired.  You just make to proper IRS tax election.

One advantage of an LLC over a Limited Partnership is that it provides limited liability to all of its members, not just the limited partners.  Another advantage is that all of the members can participate in the management of the Nevada LLC without losing limited liability status.  Whereas, in a Limited Partnership, only the general partners can participate in the management of the business.

Are there disadvantages to an LLC?

Not really.  Forming an LLC in Nevada requires certain disclosures that effectively put the world on notice that you are operating as a limited liability company.  Not that this is much of a disadvantage. Also, an LLC has certain record keeping and reporting requirements that do not necessarily apply to general partnerships.

Who should consider having an LLC?

Certain types of companies may be better suited to the LLC form of doing business such as providers of professional services, who may now use a professional limited liability company or PLLC.  Others who may consider the LLC form of doing business are limited partnerships or general partnerships who want to limit the personal liability of their general partners.  And those investing in real estate should hold the property in an LLC.

Limited partnerships which seek greater flexibility for the participation of the limited partners in management of the business should consider the LLC form of doing business.  Corporations seeking fewer reporting requirements and formalities or greater flexibility in the number and types of shareholders should also consider doing business as an LLC.

Conclusion

The Nevada LLC offers several advantages over the conventional way of doing business.  Each business entity that is subject to liability should at least consider the possibility of operating its business in the limited liability company form.