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Understanding The Differences Between LLCs And Corporations

Business owners may have to choose between an LLC (limited liability company) or Inc. (corporation) when it comes to selecting a legal entity for their new business. Pertaining to this, which entity is the right one for your needs? It can be overwhelming to understand the intricate differences between an Inc. and an LLC. This is particularly true if you are just getting started. A knowledgeable business attorney can make things easy for you.

LLC vs. Corporation – Formation of the Legal Entity

There are several differences and similarities in forming a limited liability company and corporation. Both require filing a form with the Secretary of State. The document is generally called Articles of Organization for an LLC and Articles of Incorporation for a corporation.

There is more information required in the Articles of Incorporation as compared to Articles of Organization. The articles can be effective only when there are certain governing provisions included in them. Information required for LLC formation includes the manner in which provisions will be managed and the liabilities and duties of all members and managers.

LLC vs. Corporation – Protection for Owners

The primary reason for creating a legal entity is to avoid personal liability for business debts. LLCs and corporations have their separate legal existence. Members or shareholders own the LLC or corporation, and their liability does not exceed their investment. All debts, assets, and liabilities are owned by the business and not individuals.

Limited member and shareholder liability are well-respected and established rules. Based on this, this doesn’t mean that the shareholders or members are never liable. They are still responsible for any wrongdoing, such as breaching the provisions listed under the operating agreement. Shareholders and members can be held liable for the legal entity’s debts through a legal concept called “piercing the corporate veil”.

LLC vs. Corporation – Differences in Taxation

Limited liability companies and corporations are treated differently during tax time. LLC is considered a pass-through business entity for tax purposes. They are not required to pay federal income tax. The profits are distributed directly to the owners that get taxed on their personal returns.

There is a single level of taxation since only members get taxed. Moreover, this doesn’t mean that LLC is the better option. LLC owners may be required to pay an additional self-employment tax that is currently at 15.3%.

Corporations are of two types for income tax purposes – C and S corporations. C corporations are taxed under Subchapter C of the Internal Revenue Code (IRC) while S corporations fall under Subchapter S of the IRC. A corporation is taxed under Subchapter C by default when you incorporate. Based on this, there are provisions that can qualify the corporation to be taxed as an S corporation. This will allow the corporation to be treated as a pass-through tax entity.

LLC vs. Corporation – Post-formation Compliance

There are certain obligations that both corporations and LLCs need to meet in order to remain in good standing. This includes paying franchise taxes, filing annual reports, appointing a registered agent, and maintaining a registered office.

The franchise tax is a state fee for allowing a legal entity to exist and do business. Annual reports contain information about the company. There are penalties associated with not paying franchise taxes or filing annual reports. This can eventually lead to loss of good standing and administrative dissolution.

Post formation compliance needs to be followed by both LLCs and corporations.

LLC vs. Corporation – Registered Agent Compliance

You will need to appoint and maintain a registered agent in the formation state whether you choose an LLC or a corporation. Registered agents are appointed to receive official communications from the state. There is no upper hand since both LLCs and corporations are required to do this. This is a critical choice and making the wrong choice can result in severe consequences for the legal entity, such as loss of good standing and default judgments.

LLC vs. Corporation – Management Structure

There are different management structures followed by LLCs and corporations even though management in both legal entities is governed by governing documents and statutes. The Articles of Organization and an operating agreement are followed by an LLC while Articles of Incorporation and bylaw are followed by a corporation while determining the management structure.

LLC laws don’t have as many management requirements as corporation laws. Corporations are required to provide notice and hold annual shareholder meetings, and directors’ meetings among other things.

In contrast, LLC statutes simply leave it up to the members for determining the management structure. Furthermore, it needs to be in accordance with the operating agreement. Meetings are not required by law and managers don’t necessarily need to be natural persons. This allows LLCs a greater degree of flexibility.

Discuss Your Legal Concerns with a Dedicated Alabama Business Attorney

Limited Liability Companies and corporations have several similar characteristics and some significant differences. It’s critical that you assess your unique situation and business goals before deciding on either one. The proven lawyers at BHM Law Group can help you compare the differences to arrive at a well-considered decision. Schedule your free appointment with our business lawyers today. Call us at (205) 994-0902 or contact us online.