As a new business owner, one of your most important decisions is determining what form of ownership will best meet your business needs. Selecting the best structure for your business should be a carefully planned process that is discussed with a qualified professional such as an enrolled agent, certified public accountant, or attorney who specializes in this area. In addition, as your business grows over time, you may want to evaluate if a new form of ownership should be used to achieve better results.
A Limited Liability Company (LLC) is a hybrid entity that may have some advantages over corporations and partnerships depending on your business needs. The main advantage over a partnership is that, like the owners (shareholders) of a civil law corporation, the liability of the owners (members) of an LLC is limited to their financial investment. However, like a general partnership, members of an LLC have the right to participate in management of the LLC, unless the LLC’s articles of organization and operating agreement provide that managers will manage the LLC.
Key Features of an LLC
- May have one or more owners, and may have different classes of owners.
- May be owned by any combination of individuals or business entities.
- May not be formed under state civil law to conduct a business that requires a professional license to operate, for example, a lawyer may not form an LLC. However, there may be certain exceptions to this rule.
- Taxable as a sole proprietorship, partnership, C corporation, or S corporation.
- Taxable as a partnership can achieve both conduit tax treatment and limited liability protection under civil law.
- Taxable as a partnership does not have the ownership restrictions that apply to entities taxable as S corporations.
- If the it has a single member, it will be disregarded as separate from its owner, and will be treated as a sole proprietorship or a division of its owner, unless it elects to be taxable as a corporation.
- In general, all the owners (members) are shielded from individual liability for debts and obligations of the LLC.
- Forming and maintaining it may be simpler and faster than forming and maintaining a civil law corporation.
- Typically managed by all its members, unless the members agree to have a manager handle the LLC’s business affairs.
- Its life is perpetual in nature. However, the members may agree to a date or event of termination.
How to Form an LLC
A California LLC is formed by filing articles of organization with the California Secretary of State prior to conducting business. A foreign (out-of-state or out-of country) LLC that conducts business in California is subject to the California tax filing requirements. A foreign LLC should check with their state of origin for entity requirements.
The members must enter into a verbal or written operating agreement. A formal, written agreement is advisable. The LLC does not file the operating agreement with the Secretary of State but maintains it at the office where the LLC’s records are kept.
It may be managed by managers who are not members, if provided for in the articles of the organization. However, if managed by managers, they alone have authority to bind the LLC; members and directors have no authority in these matters. Otherwise, it is managed by its members. In this case, every member is an agent of the LLC and has the power to bind it and the right to vote on merger or dissolution. Members have the same degree of limited liability as a shareholder of a corporation. The Secretary of State will assign a 12-digit filing number and the date of organization. Keep this filing number and date for your tax records. Contact the California Secretary of State at 916.657.5448 or go to sos.ca.gov for more information.
- A separate bank account should be established for the LLC.
- If formed in California, referred to as a California LLC, will file the appropriate Articles of Organization and pay a fee to the Secretary of State prior to conducting business. When formed somewhere other than California, referred to as a foreign LLC, it can register to transact business in California by filing the appropriate Application to Register a Foreign Limited Liability Company along with an official certificate that verifies it exists in good standing with the agency where it was formed, and pay a fee to the California Secretary of State.
- LLCs are only required to file the Statement of Information biannually (every two years) with the Secretary of State. Do not issue stock, or have to hold annual meetings and keep written minutes to preserve the liability shield for its owners. An election to be classified as a corporation for tax purposes will not change these requirements.
- Most cities and counties require a business license, various permits, and/or registration to do business within their city or county li