Many startups and entrepreneurs are unsure about what business formation is best for them. Often, they form limited liability companies (LLCs) because this entity structure offers a lot in the way of benefits. The first and foremost benefit this structure has over any other structure is this: options in terms of federal taxes. For startups like those in the tech industry and many others, the choice of structure is between an LLC and a corporation. This is not a decision to take lightly because it can impact the success of your startup.
Five Important Advantages LLCs Have over Corporations in California
LLCs and corporations share many similarities and offer varying degrees of advantages and disadvantages. For new businesses, some of your most important considerations involve statutory flexibility, ownership, income, taxes, personal asset protection, and investments. Here's how these considerations stack up under an LLC and corporation structure.
1. Laws Regulating LLCs are More Flexible than Laws Regulating Corporations
Corporations are governed by rigid statutory laws that offer little flexibility in the structure of the company. For example, corporate bylaws must define expressly how the corporation will operate. That, however, is not the same for LLCs. LLC operating agreements allow members to structure the business according to their needs.
If you are a startup and want the flexibility to structure the business as it fits your needs as you grow and not be hindered by the dictates of corporate law, an LLC may be best suited for you.
2. LLCs Allow for Simpler Ownership Structure than What a Corporation Offers
As a corporation, you must comply with complex procedural formalities. Complicating the overall process is the decision-making process. Sometimes, decisions must be made by a vote by board members or a vote by stockholders or both. When corporations fail to comply with these and other formalities, the individuals and shareholders could be held personally liable.
On the other hand, LLC managers do not have to comply with these same complex formalities except when their own operating agreements define it as such. If you want control over how much (or not) managers and members have in your business to make operational decisions, an LLC may be best for you.
3. An LLC is Not Taxed Twice like Corporations Are
You probably already know, but an LLC is not taxed twice while corporations are. Corporations can be taxed as either C or S corporations, but the default is taxation as a C corporation. Like C corporations, the profits and stockholders are taxed, thus, double taxation. S corporations, however, are an exception, such that only the owners are taxed on profits. But to be designated as an S corporation, strict criteria must first be satisfied.
As an LLC, however, you have options, like choosing to be taxed as a corporation (including an S corporation) or a partnership. So, LLCs can often avoid double taxation and all profits can pass through to its members without being touched.
4. An LLC Provides You with Similar Personal Asset Protection as Corporate Status Does
Some people may think that by choosing a corporation as its type of business, they are getting the best in personal asset protection – meaning they will not be held liable for any of the company's debts or won't be subject to lawsuits. But LLCs enjoy the same benefits.
What's more: whether you are a corporation or an LLC, the corporate veil can be pierced and so you can find yourself liable – but it's easier to pierce the corporation's veil than it is the LLC's veil simply because the corporation has many more formalities that can easily be breached.
5. Investors often Prefer LLCs
The investors – both foreign and domestic – are always keen to invest in California startups because, for one, the market is ideal. They generally prefer LLCs in which to invest their monetary resources because an LLC offers asset protection and flow-through taxation similar to a corporation but can be set up and maintained rather easily. In other words, an LLC benefits investors because the LLC :
- indemnifies its members from personal liability if the business acquires debt or is sued – passive investors are also indemnified;
- does not pay taxes as long as there is one class of unitholders (investors of C-corporations, on the other hand, face double taxation);
- allows investors to help customize or shape the LLC with regard to its operations and other formalities, unlike corporations that must adhere to rigid laws.
For investors, increased return on your investment, liability protection, and a hand in shaping the company are all important factors when determining where to put their money. Thus, an LLC in California may be most appropriate for an investor.
Is an LLC right for your California startup business?
An LLC in California offers many benefits, especially to startups and entrepreneurs. If you are in the process of starting up your own business, you may want to get your questions answered by a business attorney. Though here we talk about why structuring a business as an LLC may be the better option over corporations for many startups, it's not always the case. And to have your startup scale-up, you need to set the foundation first. Get the right advice, and contact Mohsen Parsa today.