Tax
& Business Alert – January 2024
512
words
Abstract: If
a small business is operated as a sole proprietorship, the owner may have
thought about forming a limited liability company (LLC) to protect his or her
assets. Or, if the owner is launching a new business, he or she may want to
know what options are available for setting it up. This article explains the
basics of operating as an LLC and why it might be a good choice for a small
enterprise.
If
you operate your small business as a sole proprietorship, you may have thought
about forming a limited liability company (LLC) to protect your assets. Or
maybe you’re launching a new business and want to know the options for setting
it up. Here are the basics of operating as an LLC and why it might be a good
choice for your business.
An
LLC is a bit of a hybrid entity, because it can be structured to resemble a
corporation for owner liability purposes and a partnership for federal tax
purposes. This duality may provide owners with the best of both worlds.
Protect
your personal assets
Like
the shareholders of a corporation, the owners of an LLC (called members rather
than shareholders or partners) generally aren’t liable for the debts of the
business except to the extent of their investment. Thus, the owners can operate
the business with the security of knowing that their personal assets are generally
protected from the entity’s creditors.
This
protection is much greater than that afforded by partnerships. In a
partnership, the general partners are personally liable for the debts of the
business. Even limited partners, if they actively participate in managing their
businesses, can have personal liability.
Consider tax
issues
The
owners of an LLC can elect under the “check-the-box” rules to have the entity
treated as a partnership for federal tax purposes. This can provide a number of benefits to owners. For example, partnership
earnings aren’t subject to an entity-level tax. Instead, they flow through to
the owners in proportion to the owners’ respective interests in profits, are
reported on the owners’ individual returns and are taxed only once.
To
the extent the income passed through to you is qualified business income,
you’ll be eligible to take the Code Section 199A qualified business income
deduction, subject to various limitations. (However, keep in mind that this
deduction is temporary. It’s available through 2025, unless Congress acts to
extend it.)
In addition, since you’re actively managing the business, you can deduct on
your individual tax return your ratable shares of any losses the business
generates. This, in effect, allows you to shelter other income that you (and
your spouse, if you’re married) may have.
An
LLC that’s taxable as a partnership can provide special allocations of tax
benefits to specific partners. This can be a notable reason for using an LLC
over an S corporation (a form of business that provides tax treatment that’s
similar to a partnership). Another reason for using an LLC rather than an S corp is that LLCs aren’t subject to the restrictions the
federal tax code imposes on S corps regarding the number of owners and the
types of ownership interests that may be issued.
Consider
all angles
In
conclusion, an LLC can give you corporate-like protection from creditors while
providing the benefits of taxation as a partnership. For these reasons, you may
want to consider operating your business as an LLC. Contact us to discuss in
more detail how an LLC might be an appropriate choice for you and any other
owners.
© 2023