Are you wondering if you should form an LLC or a Corporation, but just aren’t sure what the similarities or differences are? For an in-depth review of your specific business you should consult with a tax advisor or lawyer, but this article should offer a high-level overview to help you get started.
LLCs and Corporations have basically 4 similarities and 4 primary differences. Keeping these in mind should at least point you to the path you want to explore further for your particular business.
The four similarities are:
- Both types offer limited liability protection for owners.
- Both an LLC and a Corporation are separate legal entities created by a state filing.
- Both have few ownership restrictions, such as the number of owners or whether they are U.S. residents. The owners don’t even have to be individuals.
- Finally, stock ownership can be divided into numerous classes.
Pretty basic really, but very important none-the-less.
There are four primary differences:
1.) Taxation. With a C Corporation, all profits are taxed at the corporate level. That means they face double taxation when any profits are distributed to shareholders, because shareholders must report all dividends on their personal tax returns. S Corporations are pass-through tax entities and taxed more like an LLC.
LLCs are typically pass-through tax entities. In other words, while they do complete a business tax return, the profit or loss of the business is passed through to the owners’ personal tax returns, where it is reported and any necessary tax is paid – or refunded - at the individual level.
2.) Formalities. Corporations in general, face more extensive internal formalities including adopting bylaws, issuing stock, holding meetings of directors and shareholders, and keeping the minutes of these meetings in the corporate records.
LLCs, however, are not subject to the same internal formalities. But they are encouraged to adopt an operating agreement, issue membership shares, hold and document meetings, and properly document all major decisions of the company.
3.) Transferability of interest. A shareholder of a C Corporation typically is not required to get approval from other shareholders before selling stock. The stock of an S Corporation is also freely transferable, as long as IRS ownership restrictions are met.
The membership interest (ownership) of an LLC typically is not transferable. A member of an LLC generally must receive approval from the other members before ownership can be sold.
4.) Management structure. An LLC can be managed by members or managers. If an LLC is run by a manager, then the management structure more closely resembles that of a corporation, since the members will not be involved in the daily business decisions of the company.
Corporations have directors and officers. The board of directors oversees and directs the affairs of the corporation and has responsibility for major decisions. The directors elect officers to manage day-to-day operations.
There are of course additional differences when we sift down into the nitty-gritty details of each, but at a high level these basics should begin to point out which entity type appeals to you more, or sounds like it meets your needs more than another. From here it’s best to do some deeper research on your own, or contact an accountant or lawyer with a list of questions.
Forming a company requires an idea, but once the idea is translated into a legitimate business entity of forming an LLC or incorporating a business, challenges arise and decisions need to be made.
