2.22.2016

5 Considerations between an LLC and a Corporation

A client asked me the other day what should he go with in forming his company, an LLC or a corporation. He thought an LLC was "better" because it would offer more liability protection than a corporation but I informed him that both LLCs and corporations provide similar overall liability coverage. So what are some other reasons for choosing one over the other? 

  • If you plan on staying small: an LLC is probably better if the company plans to remain privately-held and seeks minimal investment. Corporations are better suited for companies that want to grow into a Fortune 500 type company one day.
  • If you seek investors: a corporation might be a better choice since it has a longer history of use in the business and legal world and is more attractive to foreign investors. It's also more attractive if you seek traditional types of financing like bank loans or have plans to seek an IPO.
  • If you have difficulties maintaining corporate formalities: an LLC might be a better choice since they require less formalities and tend to be more flexible. For example, you are not required to set up a separate corporate board to run the day-to-day operations. Instead, the members (or managers) of an LLC run the day-to-day operations. Also, if you form a corporation you have to conduct and document your regular meetings for matter of importance such as opening a bank account or entering into a significant new venture. Finally, with a corporation, you must observe good business practices, like not commingling personal and business funds or set up a review mechanism for business decision-making. While observing good practices should be a goal of an LLC as well, the laws and the courts are more forgiving with failure to observe such good practices then they would be with a corporation.
  • If you seek tax benefits: a C corporation allows for deductions on fringe benefits as they are recognized as corporations. LLCs are recognized as partnerships (unless it elects to be recognized as a corporation for tax purposes) and taxed as a pass-through entity meaning profits and losses are handled in the individual member's tax forms. LLCs allow for some deductions too but may be more complex to figure out then a corporation during tax season.
  • If you need the money your company makes: an LLC might be better if you need to access the income your company makes. However, you will be paying self-employment taxes among other taxes on that income which is higher than corporate taxes. A corporation might be better if you will not need that income right away. Your corporation would be taxed at the lower corporate tax rates since you will not be distributing dividends (which would be subject to a second level of taxes). The money that stays in the corporation can then be used to grow the company.

Choosing an entity is an important choice and should be tailored to the specific goals, type of industry, plans for growth and resources you have for your company. No matter what you choose, formation of your entity is only the first albeit important step. Be prepared to commit to doing the other tasks, big and small, to make your company a successful one. 

If you want to form an LLC or a corporation and have further questions, feel free to contact me: danny@djimlaw.com.

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