Inventors who Form Limited Liability Companies

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The limited liability company, or LLC, is the newest type of business form in the United States. An LLC is taxed like a sole proprietorship or partnership but provides its owners with the same limited liability as a corporation. LLCs have become extremely popular  because they are simpler and easier to run than corporations. However, this doesn't necessarily mean that an LLC is the best legal form for your inventing business.  decide whether to invent as a sole proprietor or form a separate legal entity such as a corporation or limited liability company, you should consider three main factors::

  • Expense and complexity: How expensive and difficult is an LLC to form and operate?
  • Tax treatment: How is an LLC taxed?
  • Liability concerns: How and to what extent will you be liable for debts and lawsuits?

Expense and Complexity

Setting up an LLC takes about the same time and money as a corporation, but thereafter an LLC is simpler and easier to run. With a corporation, you must hold and record regular and special shareholder meetings to transact important corporate business. Even if you’re the only corporate owner, you need to document your decisions. This isn’t required for an LLC.

To form an LLC, you must file articles of organization with your state government. Your company’s name will have to include the words “limited liability company” or “LLC” or a similar phrase as set forth in your state law. You should also create a written operating agreement setting forth the members’ ownership interests, rights and responsibilities. This is similar to a partnership agreement.

Tax Treatment

IRS rules permit LLC owners to decide for themselves how they want their LLC to be taxed. An LLC can be taxed as a pass-through entity—like a sole proprietorship, partnership or S corporation—or as a regular C corporation.

Ordinarily, LLCs are pass-through entities. This means that they pay no taxes themselves. Instead, all profits or losses are passed through the LLC and reported on the LLC members’ individual tax returns. This is the same as for a sole proprietorship, S corporation or partnership.

If the LLC has only one member, the IRS treats it as a sole proprietorship for tax purposes. The members’ profits, losses and deductions are reported on his or her Schedule C, the same as for any sole proprietor. 

If the LLC has two or more members, it must prepare and file each year the same tax form used by a partnership—IRS Form 1065, Partnership Return of Income—showing the allocation of profits, losses, credits and deductions passed through to the members. The LLC must also prepare and distribute to each member a Schedule K-1 form showing the member’s allocations.

LLCs have the option of being taxed as a regular C corporation. This is very easily done by filing IRS Form 8832 and checking the appropriate box. If you wish to start your LLC out with this tax status, you must file the form within 75 days of the date your LLC Articles of Organization are filed. LLCs that elect corporate tax status must file the same corporate tax returns as a regular C corporation. The LLC pays income taxes on profits left in the business at corporate income tax rates, which can be lower than personal rates.

When an LLC chooses to be taxed as a corporation, all of the owners who work for it will become corporate employees. As such, they will be subject to employment taxes, and the LLC must withhold income tax from their pay. The LLC must also pay state and federal unemployment taxes for each owner-employee.

Of course, if you want to be taxed as a C corporation, you can form a C corporation instead of an LLC. The only reason to form an LLC instead of a C corporation in this instance is that an LLC is somewhat simpler and easier to run.

Liability Concerns

LLC company owners, called members, enjoy the same limited liability from business debts and lawsuits as corporation owners. You won’t be liable for business debts unless you personally guarantee them.

When to Talk to a Lawyer

If you wish to form an LLC, you may wish to consult with an experienced buisness attorney to help you draft an LLC agreement and take the other steps needed to legally established your company.

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