Starting your own business involves choosing the right legal structure to operate it. A limited liability company, or LLC, is a type of legal structure that is right for many businesses because of its flexibility. Depending on your business needs, your LLC can be primarily structured around the number of owners, how it is to be managed and organized, or tax planning considerations.
Forming an LLC
You form an LLC according to the state law where your business is located. This typically involves filing a document, called articles of organization or certificate of formation, with the state agency that oversees LLCs. An LLC's owners are referred to as members and can range in number from one member, commonly referred to as a single-member LLC, up to an unlimited number of members, called a multi-member LLC. Once the filing is complete, the LLC comes into existence as a legal entity separate from its members. Only two states, Missouri and New York, require an LLC to also prepare an operating agreement, although it is permitted in all states and advisable to do so. The operating agreement is a private document, not filed with the state, that is used to set forth how the LLC will be structured regarding its management and organizational formalities.
The management structure of an LLC typically falls into one of two categories. Either the LLC is managed by all members equally and is called a member-managed LLC, or the members appoint one or more managers to manage the LLC. In a member-managed LLC, each member has the authority to act on behalf of the LLC as by making contracts and incurring liabilities. If the members appoint one or more managers, the authority to act on behalf of the LLC is limited to the appointed managers. In many states, the articles of organization or certificate of formation filed with the state must indicate whether the LLC will be member-managed or have appointed managers.
LLC Organizational Structure
With regard to an LLC's organizational structure, state laws provide LLC members with the option of adopting the more formalized structure of a corporation or the informal structure of a partnership. For example, like a corporation, the LLC's members or managers can structure the LLC to have officers, such as a president, secretary or treasurer, who are delegated specific duties. The LLC can also adopt corporate-like activities such as holding regular meetings and requiring written resolutions for certain decisions. However, no state requires a rigid organizational structure and the LLC may operate like a partnership with decision-making and delegation of duties handled on an informal basis. The best organizational structure for any LLC will depend on its business needs.
LLC Tax Options
For federal income tax purposes, the IRS treats an LLC as a “disregarded entity” which means it does not have its own tax classification. If an LLC has only one member, the IRS’s default position is to classify the LLC as a sole proprietorship. Multi-member LLCs are classified as either a corporation or partnership. However, you can choose a tax classification for your LLC by filing Form 8832, called “Entity Classification Election," with the IRS. For LLCs that choose a corporation tax classification, a further election can be made to be classified as an S corporation. The type of classification you choose depends on the tax considerations most desirable for the LLC’s members.