If you have read the last three posts about the advantages and disadvantages of certain entity types (So far I’ve covered Sole Proprietorship, Partnerships, and a bit of Corporations) then you might be kind of torn.
The limited liability that comes with a corporation could be very nice. But the double taxation doesn’t sound like a good time at all! Then at the same time there are the Sole Proprietors and Partnerships who boast the various tax benefits. The downside there is that you have so much more to lose if something goes wrong.
Fortunately the States of Texas and Wyoming have given us alternatives in the 80’s and 90’s. I’m sure that you have heard of them many times before. They are the LLP and the LLC. Limited Liability Partnerships and Limited Liability Companies.
The Limited Liability Partnership has the bonuses of a regular partnership, only you are now covered legally with limited liability for all of the partners. A downside is that it is still a partnership, so there must be at least two people involved.
It’s rather curious that when Texas created LLPs they didn’t also create some sort of Limited Liability Sole Proprietor. My guess would be that it is due to the numerous oil partnerships that required multiple investors.
Not much later, the state of Wyoming came out with the idea for the Limited Liability Company, also know as the LLC. Although it is often mistakenly called a Limited Liability Corporation, it is important to know why it is not one.
Corporations are already entities with limited liability. So saying limited liability corporation would be like saying a limited liability limited liability entity, which is redundantly redundant.
A second big difference between the two entities is that you can organize, control, and run the company however you want. You could make twenty types of interests with twenty permission types if you wanted to do something like that. Of course I wouldn’t advise creating so many types of membership rights, because it would be something that’s fairly hard to change. Especially so if you don’t specify in your membership agreement. What if you want to convert to a corporation later so you can issue out stock. Nasdaq doesn’t want to deal with so many share types, and neither do the other exchanges!
What I’m really getting at here is freedom. With an LLC you have freedom to run your company any way that you would like. By no means should you go nuts and make all kinds of crazy bylaws that your going to be stuck with, but of course you can run your company however you want as long as the shareholders (members) agree to it.
When it comes to taxation you have choices with an LLC or an LLP. You can be taxed as a regular partnership giving you and your partners the benefits being a pass through entity. If you decided to, you could subject yourself to double taxation and pay taxes like a corporation. It might be worth it to do so depending on the situation and the particular state’s laws. Ask your CPA about it.
Like every entity type there are benefits and drawbacks to choosing to operate as an LLC or an LLP and in short, here the are.
Pros for both types:
Pass Through (if wanted)
Freedom in Organization and Operation (through the operating agreement)
Cons for the two types
Not easy to trade shares in the open market or have an IPO
Freedom in Organization and Operation (with less defined standards for opperation from government and other agencies)
Cons for LLCs only
High taxes in some states to start and operate
Cons for LLPs only
Requires at least two people at all times
Some states restrict to professionals only
Pros for LLCs only
Only one person is needed to start
Pros for LLPs only
You can put LLP on your business card!
I hope you’ve learned a thing or two about setting up shop as a Limited Liability Partnership or as my entity of choice, a Limited Liability Company!