Differences Between LLCs and Corporations
Whether you already have a business in place or are looking to set up a new business, it’s important to understand the difference between an LLC and a corporation. Knowing which structure best fits your business needs will allow you to make the best choice in setting up your company.
Let’s go over the differences between each and explore how each entity operates when it comes to tax liability, legal liability, and overall operation.
LLCs and corporations both require specific documentation for the formation of your new business. This documentation must be filed with the state you’re operating in, and each state has its own unique regulations and requirements when filing. Once established, both LLCs and corporations protect owners from personal liability.
Corporations have a very rigid and standardized operating structure that requires more reporting and recordkeeping than LLCs. Conversely, LLCs are a lot more flexible in how owners can run the business.
The owners of an LLC are called members with each member owning a percentage of the business. LLCs are flexible in who can be an owner and include individuals, corporations, other LLCs, and even individuals from foreign countries.
All LLC members and the percentage of the company they own are outlined in the business’ operating agreement. All states have their own regulations about LLC ownership, and some states require LLCs to be dissolved if a member leaves.
Owners of a corporation on the other hand are known as shareholders. Much like an LLC, shareholders are given a percentage of the company in the form of stock. The more company stock an individual has, the more of the company they own. Unlike an LLC, it is easy for shareholders to transfer their shares to another individual, or get rid of their shares altogether.
Both LLCs and corporations shield their owners from being held personally liable for lawsuits that might transpire against the business or business debts. Business owners and shareholders on the other hand can still be held personally liable for their negligence.
Good record-keeping, including keeping personal finances and operations separate from business finances and operations, is important. Adequate capitalization and insurance for business operations are critical. Having good documentation regarding spending, business operations, corporate meetings and minutes, and other information can help keep business and personal operations separate, minimizing any possible legal troubles.
When it comes to tax time, LLC operations will have more options than corporations. Because LLCs are not tied to a specific tax classification, the business can be taxed as a sole proprietorship, partnership, C corporation, or S-corp. Depending on the business, and operations, one tax classification might be better than another.
LLCs that are operated by a single member are automatically taxed as a sole proprietorship, while multi-member LLCs are taxed as partnerships. Profits made by the company pass through to the members and members pay income and self-employment tax on their portion of the profit.
On the other hand, corporations file corporate tax returns and pay corporate taxes on their profits. Owners or shareholders who take a share of the profits will need to report those profits and pay personal income tax on those profits as well.
Corporations can avoid this double taxation by opting to be taxed as an S corp instead of the default C corporation classification. Unlike C corporations, S corps do not pay corporate income tax. For a company to be classified as an S corp, ownership needs to be 100 or fewer shareholders, a special form must be filed with the IRS to elect S corp status, and there are additional requirements that need to be met as well.
LLC or Corporation, Which Is Better?
Both LLCs and corporations are good entities to incorporate your business into. With regard to which one you choose, it depends on your business type, your finances, and your business goals. Entity type and structure impact not only taxation and liability, but also important issues such as management and control of business decisions, transfer of ownership, and more.
In general, individuals who plan to take on outside investors, or want to scale their business, may be better suited with a corporation. This is because ownership is easier to transfer than with an LLC. Individuals operating as sole proprietors and who don’t necessarily want to scale in the future may prefer an LLC for the time being.
Speak With an Experienced Business Law Attorney
LLCs and corporations are just two types of business structures available to Illinois businesses. There are also sole proprietorships and many different types of partnerships, including general partnerships, limited partnerships, limited liability partnerships, and even limited liability limited partnerships. Regardless of which business entity you set up, speaking with an experienced business attorney can help you better understand what can quickly become an overwhelming process.
The dedicated team at MacDonald, Lee & Senechalle can help you navigate your business goals so that you choose the best operation for your business, no matter how big or small it may be. Contact our legal team today to learn more about how our services can meet your needs.