Business Formations & Incorporations: Limited Liability Companies

A Limited liability company (“LLC”) is a business entity that allows for liability protection for the equity holders, without sacrificing each individuals ability to participate in the management of the company.  Those that hold equity in the company are called “members” of the LLC, unlike corporations which have “shareholders.”  The equity a member owns in the LLC is often defined as a “membership interest,” or sometimes a “membership unit.”

Structuring Your LLC

Many business owners choose LLCs due to the liability protection of an LLC and a higher degree of flexibility when structuring the management and governance of the LLC.  It is important when structuring your LLC that you have a well-written operating agreement. The operating agreement is the written document that evidences the agreement between the members of the LLC in regards to how the LLC will be operated and governed.  While an operating agreement is not required, it is highly recommended in case of future disputes between members of the company.    One of the larger decisions when structuring your LLC is the management structure of the LLC, as there are two different types: (1) Member-managed LLCs; and (2) Manager-managed LLCs.  Member-managed LLCs operate by reserving all the management powers of the business to the members of the LLC, so each member can contribute to management in accordance with his/her respective rights as laid out in the operating agreement.  Manager-managed LLCs are structured so that the management of the LLC is more like a corporation, where the members delegate the management to one or more individuals, and the managers will operate the LLC and make the day-to-day decisions.  LLCs further offer structural flexibility similar to a partnership, where the members can allocate profits and losses disproportionately to their capital contributions, as well as voting rights that don’t have to be proportional to membership interests.  These are just a few of the many considerations when forming a LLC, so it is important to consult with an experienced business attorney when forming your LLC.

Liability Protection

The members of an LLC enjoy protection from personal liability, similar to that of a corporation.  This means that members of the LLC will generally not be liable for the debts or liabilities of the LLC itself.  As a general matter, if the LLC is formed correctly the extent of each member’s liability will be the extent of any unpaid capital contributions, including any further capital contributions as required in the operating agreement.

Tax Implications

Upon the formation of the LLC, the members can decide how they want to structure the way the LLC will be taxed.  LLCs, by default, will have the profits and losses “pass-through” to the members and will be reported on each individual member’s income tax return.  However, the members of the LLC can opt to be taxed as a corporation instead, in which the corporation pays taxes on its profits at the corporate tax rate.  If the LLC pays out dividends to the members with this tax structure, the members will then be taxed on the dividends they receive as income.

There are a lot of important considerations when forming your business as a LLC, so you should consider consulting with an experienced San Diego business attorney when forming your company.  Allow Lee Shome & Kennedy, LLP to assist you in the formation and operations of your LLC.  LSK’s experienced business law attorneys will make  the process as stress-free and efficient as possible so you can focus on running your company.