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What Is An LLC? | How Does It Work?

What Is An LLC? | How Does It Work?

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What Is An LLC? | How Does It Work?

What Is An LLC? | How Does It Work?

The LLC (Limited Liability Company) is a type of business entity created to provide liability protection to small business owners.  LLCs are registered with a state and are separate legal entities with their own tax identification number.  Being a separate legal entity, if the business is involved in a lawsuit, the owner’s personal assets are normally safe.

There are four primary entities a business will choose from which include the sole proprietorship, partnership, corporation, and LLC.  While starting a business as a sole proprietorship or partnership is the easiest of the four, the major downside is the business assets are individually owned.  This is concerning to many because if the business is sued, the owner’s personal assets are at risk.  To reduce this risk, corporations and LLCs were created to limit the liability an entrepreneur takes with owning a business.

Looking at the corporation vs LLC, they are both similar in that they separate the assets of the business from the individual, but there are some points to consider.

Guide to Forming an LLC in Every State

For more details on state-specific LLC information, check out our page on forming an LLC in each state.

What are the benefits of having an LLC?

There are several benefits to having an LLC including:

Liability Protection – An LLC limits the amount of personal liability an individual is exposed to from legal action taken against a business they have ownership in. There are some exceptions, but are generally only when fraud or negligence occurs.  The limited in Limited Liability Company means the members are limited to losing only the money that they invested in the company.  Personal assets such as homes, vehicles, bank accounts, etc. are safe from being used to repay business debts in most cases.

There is one point we need to clear up that many people mistake in regards to liability protection, which is repaying bank loans.  It is often mistaken that if the LLC fails and a loan was taken to get it started, the LLC owners aren’t personally liable and won’t have to repay the bank debt.  While the LLC could be made solely responsible to repay all debts, it’s very common for a bank to require a personal guarantee from each of the members who own 20% or more of the business.  Debts to suppliers are another story.  Should the LLC fail, those creditors can’t get at the member’s personal assets (unless for some reason a personal guarantee was given).

Tax Flexibility – The LLC offers a unique benefit as the way it is taxed is the most flexible out of the four entities.  A single-member LLC can choose to be taxed like a sole proprietorship and a multi-member LLC can be taxed like a general partnership.  This is known as a disregarded entity or pass-through taxation.  Pass-through taxation means the entity does not pay tax, but the owners do.  There is no corporate tax return and LLC members report their share of profit or loss on their personal income tax returns.

The LLC can also elect to be taxed like a corporation.  Higher earning LLCs may have tax advantages because unlike pass-through taxation where all profits are subject to self-employment taxes (Social Security and Medicare), some of the profits can be distributed as dividends, which eliminates that tax.   It’s best to first talk to an accounting professional before making this decision.

The LLC also provides the flexibility of changing the tax election.

Administrative Duties – In order to maintain the liability protection of a corporation, formal officer roles have to be assigned, holding an annual meeting, holding a board of directors meeting, and recording company minutes and resolutions are required. This may seem extreme for a single-member corporation, but is still required.

What are the disadvantages of having an LLC?

While the benefits of having an LLC are several, there are some reasons it’s not the best for all businesses.

Limited Investment – Unlike corporations, LLCs can’t issue shares. It can still take investment, but is usually better suited for smaller investors.  If you are looking to attract larger outside investment, the corporation is usually the better business entity.

State Laws – Every state creates the rules and regulations for Limited Liability Companies. This creates a different set of rules for LLCs in each state and can be especially troublesome for an LLC that is formed in one state and performing a service in another.  Corporations have consistent rules across the U.S.

Cost – The cost of an LLC (and corporation for that matter) is more expensive than the sole proprietorship and partnership. There is not only the filing fee for the Articles of Organization (called the Certificate of Formation and Certificate of Organization in some states), but also the expense of the Annual Report.

Who can be a member of an LLC?

Any person over 18 years of age or a business entity can be a member (owner) of an LLC.  Members are also not required to be U.S. Citizens.

How much does an LLC Cost?

The costs to form an LLC vary from state to state and range between $40 and $500.  Besides the formation cost, there will be annual costs to keep the LLC in good standing with the state.

With the amount of protection a corporation or LLC provides, the small cost of forming is often worth it.

Do I need an attorney to form an LLC?

Is an attorney required?  No.  It’s not a bad idea to have someone help you through the process if it’s your first time, but you can form an LLC yourself.

An attorney is going to provide the most personalized service and will do the work to make sure the LLC is filed correctly. The downside with using an attorney is the cost which can be as low as $500 to over $1,500, plus state filing fees.

Another option is using an entity formation service that isn’t as personalized as an attorney but you still have help along the way.  Many of these services cost only $50, plus the state filing fees. Some additional benefits include alerts when reports are due and a free registered agent for the first year.  Some of the better known formation services include IncFile, ZenBusiness, and Northwest Registered Agent.

Last, you can form an LLC for free (state filing fees still apply).  You will file the Articles of Organization with the Secretary of State (or similarly named state department).

We have step-by-step guides to forming an LLC in each state that you can follow and do yourself.

What is needed to form an LLC?

To form an LLC, most states allow the Articles of Organization to be filed online or by mail.

Some items needed to form the LLC include:

LLC Name – Each state requires a unique name for each entity, so an LLC name search is a must before filing.  There are also some restrictions on what words can be used and requirements on designators to identify the business entity such as LLC, Limited Liability Company, Ltd., etc.

Principal Address – An address for the LLC will need to be listed.  The address doesn’t have to be for a storefront, however, it must be a physical address in the state as PO Boxes are not allowed.

Registered Agent – A Registered Agent is an individual or company that is a single point of contact when communicating with the state or receiving legal notices.  The Registered Agent can be one of the members, however, the name and address of the Registered Agent become public notice and many people don’t want that especially if they are still working at a job or they are working from home.

Registered Agent services such as While the filing is pretty straightforward, it’s nice to have some support if you have questions, alerts when the annual report is due, forms like operating agreements, banking resolutions and more.  There are companies like IncFile or IncAuthority that provide LLC formation guidance for only the cost of the state fees! are available to be that point of contact and usually cost around $100 annually.

Management – The LLC will need to choose whether it is Member-Managed or Manager-Managed.  Member-Managed is most common and is when the members manage the LLC.  A Manager-Managed LLC is one where the members hire a manager to run the business, much like a CEO for a corporation.

Operating Agreement – An LLC Operating Agreement is a document that describes the roles of the members and the operating procedures of the LLC.  Not required in every state, it is often a good idea for a multi-member LLC.

Employer Identification Number – The Employer Identification Number, short for EIN (but sometimes informally called a tax ID number), is a nine-digit number that is assigned by the Internal Revenue Service (IRS) to uniquely identify a business.

What is the best state to form an LLC?

The answer to the best state for forming an LLC will vary depending on the state you live in, the type of business, and what the business does.  A general rule of thumb is that the best state to form an LLC is usually the state where you live or where a majority of business activities take place.  Business activities are things such as where employees work, company-owned warehouses, where company meetings take place, etc.

There is a lot of misinformation regarding the benefits of filing in “popular” states like Delaware, Nevada, and Wyoming.  While there may be benefits, they will vary depending on several factors.  There are also often consequences that aren’t so well advertised.  A common issue when forming an LLC in a different state includes having to file as a foreign entity.  This means the LLC has to file in two states, meaning multiple reports and tax returns. 

Learn more about the difference between domestic LLC and foreign LLCs.

What is the difference between a PLLC and Series LLC?

In some states, there are different types of LLCs.  These aren’t as common as the regular LLC.

Professional LLC – A Professional LLC, or PLLC, is a Limited Liability Company that provides a service that requires licensing in the state of formation.  Some common professions that require licensing include accountants, attorneys, doctors, etc.  Not all states require a licensed business to form a PLLC.

Depending on the type of business, a Professional LLC may have limitations on personal liability, resulting from malpractice claims.

Series LLC – Series LLC is an “umbrella” LLC with individual LLC’s (series) under the “umbrella”.  Each series is essentially an individual LLC, so if one series is sued, the other series are protected.

The Series LLC is most commonly used for rental real estate, if House A is sued, Houses B, C, D … are protected.  There are seventeen states where Series LLC exist including:  Alabama, Delaware, Washington D.C., Illinois, Indiana, Iowa, Kansas, Minnesota, Missouri, Montana, Nevada, North Dakota, Oklahoma, Tennessee, Texas, Utah and Wisconsin.

What Does LLC Mean at the End of a Company Name?

LLC at the end of a business name stands for Limited Liability Company. All states require LLCs to use a special designator at the end of their name to identify the company as an LLC. The allowed designators vary by state, but are typically Limited Liability Company, LLC, or L.L.C.

Related: What Does LLC Mean at the End of a Company Name?

Can you change the name of an LLC?

The process to change the name of an LLC varies by state, but is a pretty easy process.

Related: How to change the name of your LLC?

How To Fill Out Form W-9 For An LLC

The IRS Form W-9 is used by a company to pay a vendor for products or services rendered.

The W-9 is provided by the Internal Revenue Service (IRS) and collects information such as the company’s name and contact information, type of entity, and Taxpayer Identification Number (TIN) for federal tax purposes.

Related: How to fill out a W-9 form for an LLC

What is the best state to form an LLC?

It’s generally best to form an LLC where you reside and will be doing the work, however, there may be reasons to form in another state.

Related: What is the best state to form an LLC?

What are the Articles of Organization?

The Articles of Organization, also referred to as the Certificate of Formation and Certificate of Organization in some states, is the paperwork that is filed with the Secretary of State’s office to officially create a Limited Liability Company.

What Is An LLC? | How Does It Work?

What Is An LLC? | How Does It Work?

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