Choice of Entity for Sole Business Owners Part III

This is the final part of a three-part series on choosing a business entity for sole business owners. Click here for my previous posts on Corporations, and here my first post on Sole Proprietorships.

Limited Liability Company (L.L.C., L.C.)

Limited Liability Companies are another popular option for sole business owners. LLCs are owned by members who hold membership interests/units, managed by, uh, managers, and governed by an Operating Agreement. An LLC combines the limited liability protection of a corporation with the pass-through taxation of a sole proprietorship or partnership. It’s also highly flexible. LLCs are given fairly broad discretion to manage themselves, and they have a wide selection of tax treatment options.

By default, a single-member LLC will be taxed as a sole proprietorship (income reported on Form 1040 Schedule C), and a multiple-member LLC will be taxed as a partnership (LLC income reported on Form 1065 and members’ pro rata share reported on Form 1065 Schedule K-1). However, an LLC may alternatively elect to be taxed as a C corporation or an S corporation.

Another advantage of an LLC is that there are no formalities. The manager and her responsibilities are typically designated by the operating agreement, and thus there is no requirement for members to hold elections or regular meetings. In light of this, however, it’s wise for even a single-member LLC to have an operating agreement, both to set forth the rules, regulations, and policies of the company and, as with corporations, to document that the company is separate from the owner for limited liability purposes.

In Massachusetts, LLCs are formed by submitted a Certificate of Organization with the Secretary of the Commonwealth. As with corporate bylaws, an operating agreement is not filed with the Secretary.

With all this flexibility comes a cost, however. At $500 apiece, LLCs have the highest initial filing fee and annual report fee (equivalent to that of a Massachusetts Limited Liability Partnership). Nevertheless, LLCs are a favored option because they combine the benefits of corporations, sole proprietorships, and partnerships, with added flexibility and without the strict formalities. Additionally, licensed professionals may form a Professional Limited Liability Company (P.L.L.C.), which confers the same professional liability insulation between members as a professional corporation.

In Sum:

  • + Flexible
  • + Limited liability protection
  • + Pass-through taxation by default
  • + Numerous alternative tax treatment options
  • + Ease of formation
  • + No formalities
  • + Allows for growth
  • + Survives departure of members
  • - Expensive to form and maintain

Massachusetts Limited Liability Company Resources

LLC Forms

Massachusetts Limited Liability Company Act, Mass. Gen. Laws. ch. 156C

LLC Tax Treatment Options (IRS)

In honesty, this series was originally one short post that ended up about five times longer than I expected it to be. In any event, hopefully this has been a helpful little basic primer on business entity considerations for sole owners. Again, selecting an entity is a decision that depends on your preferences, budget, and long- and short-term goals among other things. While my intention here is to provide you with general information to help you make a more educated decision, this is no substitute for consulting with a business attorney and a CPA who can give you a more personalized recommendation based on your specific situation.

As always, if you have any questions, feel free to contact me!