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Forming an LLC

Let’s discuss LLCs! This is a very common business type but so many people (even those who OWN an LLC) do not actually realize what an LLC is… or what it could be. This is a great place to start if you are considering starting a business or getting your already active business more formally set up instead of being run under your name and social security number.

Here are the basics:

A limited liability company (LLC) is a business structure allowed by state statute. The federal government does not recognize an LLC as a classification for federal tax purposes; therefore, an LLC must file a corporation, partnership or sole proprietorship tax return.  Owners of an LLC have limited personal liability for the debts and actions of the LLC.

  • All LLCs with one member will file a Schedule C on the IRS Form 1040
  • LLCs with multiple members will file as a partnership or S-Corporation (if proper election is made).  These types of LLCs are still taxed at the personal level.
  • An LLC limits personal liability because an LLC is legally separate from its owners. LLCs are responsible for their own debts and obligations, and although you can lose the money you have invested in the company, personal assets such as your home and bank account can’t be used to collect on business debts. Your personal assets are also protected if an employee, business partner or the business itself is sued for negligence.
  • LLCs are straightforward in that there is no ongoing paperwork involved. Corporations are required to hold annual meetings, produce annual reports, and pay annual fees to the state in which they are incorporated.  In most states LLCs do not carry such requirements.
  • LLCs are very simple to create and offer the most flexibility as a capital structure. Owners in this type of entity have more freedom to make business decisions as they see fit without having to seek approval from a board of directors, for example.
  • In the future, LLC agreements can be altered very easily to include additional partners and they do not limit the number or types of partners that can be admitted to the entity. LLCs also have flexibility in the way they distribute profits to their owners, and they aren’t required to distribute them equally or according to ownership percentages. For example, two people may have equal interests in an LLC, but they may agree that one of them will receive a greater share of the profits because he or she contributed more money or labor in the business’s startup phase, or in the business overall.

How does an LLC affect my taxes?

The Internal Revenue Service automatically classifies LLCs as either partnerships or sole proprietorships, depending on whether they have one owner or more than one owner. This means that LLCs can always take advantage of “pass-through” taxation in which the LLC does not pay any LLC taxes or corporate taxes. Instead, the LLC’s income and expenses pass through to the owners’ personal tax returns, and the owners pay personal income tax on any profits.

This is extremely beneficial given the new tax law because all pass-through LLCs are given the opportunity to exclude 20% of net income from their taxable income.  So for example, you have 100K in income from your LLC, this is all the income you have to report, 20% is automatically exempt from taxation.  So your tax will be calculated on 80K.

In addition, LLC owners have the opportunity to deduct additional expenses like health insurance premiums, vehicle costs, and home office expenses.

If you are interested in learning more about the formation of an LLC, allowable deductions and a checklist of items you should consider in getting your business up and running, please contact our Outsourced Accounting Department at Stephano Slack at outsourced@stephanoslack.com.

Samantha Wolf, CPA

Dave Kubovsak, CPA, CVA

610-687-1600

February 5, 2019