The vast majority of self-employed workers are sole proprietors but there may be benefits to changing the legal form of your business. Let’s go over why you may want to consider changing to a Limited Liability Corporation and how to form an LLC.
What is an LLC?
A Limited Liability Corporation is a business structure that is often described as a hybrid between a corporation and a sole proprietorship. This is because it provides the pass-through income taxation of a sole proprietorship or partnership with the limited liability of a corporation. You may also choose to have an LLC taxed as a corporation.
Why start an LLC?
One of the reasons most self-employed workers are sole proprietors is that it’s by far the easiest thing to do. You and your business are seen as one entity by the IRS and there are few forms to fill out. Starting an LLC adds complexity and costs but it can also have benefits.
As the name implies, an LLC provides “limited liability” for its owners. Your personal assets can be protected against court rulings, debts or losses of your business. That’s not always the case if you’re a sole proprietor.
If your LLC has one member, it’s treated as a sole proprietorship for tax purposes by default. Those with more than one member are treated as a partnership. An LLC offers flexibility, though, as you can choose to have it taxed as a corporation. This may be useful depending on how much income your business is making.
Depending on your situation, there may also be other benefits of an LLC like increased credibility, state tax advantages or for business banking. There are potential negatives though, so be sure to consult your tax professional before making any changes.
How to form an LLC
If you’ve decided to form an LLC, here are the steps you need to take.
- Choose a compliant business name: Here’s what you need to know about choosing a legal name for your business. You need to choose one that conforms with your state’s requirements and most states require you to include “LLC” “Limited Liability Corporation” or some variation included in the name.
- File the needed paperwork and pay fees: You’ll need to fill out the formal paperwork to create an LLC. This is often called the articles of organization or certificate of organization. Fees will vary based on which state you’re in but it can vary from $100 to $1,000. Note: some states also require you to publish a notice of intent to form an LLC.
- Create your LLC Operating Agreement: Some states require you to have an LLC Operating Agreement, which is a document outlining the rules and structure of your LLC. Even if it’s not strictly required, it’s still a good idea because, without it, you’re subject to a state’s default LLC rules.
- Get any needed permits or licenses: Some states or regions require you to obtain permits or licenses to operate. Get them if you need them.
If any of you have changed from a sole proprietor to an LLC, please share your experiences with this process in the comments.
MileIQ’s blog does not constitute professional tax advice. You should contact your own tax professional to discuss your situation.