What Does a Limited Liability Company Mean?

by Jennifer Mueller Google
Small business owners often prefer an LLC's flexibility.

Small business owners often prefer an LLC's flexibility.

Jupiterimages/Brand X Pictures/Getty Images

A limited liability company, or LLC, is a hybrid business form created by state statute. The LLC combines the corporate feature of limited liability with the flexibility and tax status of a traditional partnership. It is the preferred business form for small business owners who do not intend their business to grow significantly, according to "Entrepreneur" magazine. “Limited liability” means that the LLC’s members do not have personal liability for business decisions or activity conducted on behalf of the LLC.

Ready to start your LLC? Start an LLC Online Now

Formation

While each state has its own specific statutory requirements for LLC formation, some basic steps are required by every state. An owner must first choose a business name unique within that state. The owner or owners also must obtain all licenses or permits required by the state in which the LLC will operate. Most states also require each new LLC to file an Articles of Organization form with the secretary of state. This document lists the names of the LLC’s members, its name and address. The IRS notes that certain types of businesses, such as insurance companies, are not legally allowed to be organized as LLCs.

Organization

An LLC has fewer legal record-keeping requirements than a corporation; thus, most states do not require an operating agreement with LLC formation. An operating agreement lists all the rights and responsibilities of the members, including the allocation of profits and losses. Flexibility is a hallmark of the LLC, and LLC members have a wide latitude in prescribing the roles of various members and the extent of their involvement. Most states do not restrict ownership, so a corporation or another LLC can be a member of an LLC, and there are usually no maximum limits on the number of members.

Duration

Unlike a corporation, which exists as an independent entity in perpetuity, an LLC dissolves when its ownership changes. At formation, the Articles of Organization can prescribe a way for the remaining members to continue the LLC if one member leaves. This enables the LLC to continue operation without interruption. Many states require the Articles of Organization to specify the number of years the LLC will operate for, and have a statutory maximum of 30 or 40 years.

Taxation

The federal government does not recognize an LLC as a business entity classification for tax purposes, according to the IRS. An LLC may elect to file taxes as a corporation, partnership or sole proprietorship. An LLC with two or more members must choose to be classified as a partnership or a corporation. An LLC with a single member can elect to be taxed as a corporation or as a “disregarded entity,” whose income is not considered separately from the owner’s for tax purposes. Many LLCs elect to be taxed as a partnership to avoid double taxation, meaning the same income is not taxed for both the business and each individual member, according to "Entrepreneur" magazine.