What is an LLC?

LLC stands for Limited Liability Company. Though the LLC goes back several hundred years, it really made its debut in the U.S. in 1977 when Wyoming, desiring to encourage businesses to relocate to their state, passed the first state law sanctioning the LLC's existence.

What is the purpose of an LLC?

The LLC is a welcome addition to the business community because it does something desperately needed by business owners; it provides limited liability for all those who come together for a business purpose but do not wish to put themselves and their families at risk for lawsuits from creditors.

In comparison, corporations provide such limited liability, but they do not enjoy the partnership (pass-through) type tax treatment more desirable to many investors. General Partnerships do not provide limited liability for any partners, and Limited Partnerships, though they do offer limited liability, still require at least one general partner (or scapegoat, if you will) willing to bear unlimited liability for the business.

When is an LLC the best choice for your business?

There are several factors to consider:

• What kind of business are you running? (Retail? Real Estate? Service?)

• How much privacy do you desire?

• How actively involved will you be in the business?

• How many others will be involved?

• What are your tax saving needs?

As a general principle, LLC's require fewer formalities, but can easily pay more taxes than a corporation. LLC's do enjoy the option to be taxed as a corporation (C or S) if there are more than one member. Otherwise, LLC's default for tax purposes as a partnership when there are 2 or more members, and as a sole proprietorship if there is a single member. A single member LLC would simply be reported on the member's schedule C and thus would not be required to file a separate tax return.

Regardless of whether your LLC has one or more members, all members generally must pay FICA tax (which includes Social Security and Medicare taxes) on their profits. This is a commonly overlooked issue when people are considering which entity to use for their business. This must be addressed early on or you will be scratching your head wondering why you ever formed an LLC at all. You will have achieve some limited liability, but with little or no tax benefit.

There is a way to avoid this tax trap, however, if your LLC has two or more members, and that would involve making one member the managing member while the others remain passive members. Passive income is not generally subject to FICA. But do this only if it is appropriate. This could provide some FICA relief for passive members depending on how you allocate profit and loss at the end of the year on your LLC's tax return.

LLC's used for real estate investment may not be subject to FICA at all since rental income is considered passive income.

Another option would be to be reclassified for tax purposes with the IRS as a C or S corporation via IRS form 8832. Corporations are not subject to FICA and only pay FICA on money paid out as wages; 7.65% from the corporation and 7.65% from the employee.

LLC's and Liability

U.S. Business Strategies, Inc. can help you determine which entity or plan would best suit your individual circumstances. Speak to your local U.S. Business Strategies consultant or call U.S. Business Strategies directly for more information.