A Limited Liability Company is a common business entity that may be owned and managed by one or more individuals. LLCs, formed and managed under state law, are relatively simple to set up, and allow for a flexible management structure. Unlike a partnership, LLC owners, known as members, are not personally liable for the debts and obligations of the company.
LLCs vs. Partnerships
LLCs are structured to operate as a partnership, but enjoy the limited liability benefits of a corporation. Like a partnership, the owners of an LLC have flexibility in how they want to manage the business, and how they want to distribute the profits. Unlike a partnership, LLC owners are not personally liable for the debts or the obligations of the business, except in rare circumstances. Because of this, most states require LLCs to formally register with the state, while partnerships often do not require registration.
An LLC can be formed by one or more individuals or entities. When more than one individual forms an LLC, the owners are essentially business partners. However, in most states, LLC owners are referred to as members, according to law. When forming an LLC with multiple members, many LLCs draft an operating agreement which specifies how the company will be managed, how profits will be distributed among the members, and how the LLC may be dissolved. Although not a legal requirement in most states, many LLCs create an operating agreement designed to prevent conflict among members down the line.
When an LLC has more than one member, the members may decide how they want to share the management of the company. An LLC may be either "member-managed" or "manager-managed." In a member-managed LLC, all the owners have equal rights and responsibilities in managing the company. Conversely, a manager-managed LLC provides that one or more members are designated as "managers" who will be responsible for making decisions for the company. When not otherwise specified in the operating agreement, the LLC will automatically be a member-managed company in most states.
The Internal Revenue Service does not recognize LLCs as a business entity. Instead, an LLC with more than one member must file its tax return as either a corporation or a partnership. Members are often referred to as partners because of the way the LLC is taxed, although the tax treatment does not affect the business entity type. When an LLC is treated like a partnership, the business income "passes through" the company, meaning the LLC is not subject to business income tax and double taxation. Instead, the income is reported on the personal tax returns of the members.