C Corporation vs. LLC for Startups
Advantages and Disadvantages of an LLC A limited liability company ( LLC ) provides shareholders with many of the same protections at a C Corporation and safeguards their actions from personal liability. Indeed, an LLC may even provide extra protection at times because its structure is less formalized and requires less reporting. Therefore, there are not as many causes for action to pierce the corporate veil or treat the company like an individual. Overall there is much less paperwork to file and technical procedures that have to be followed to maintain an LLC. A LLC is considered a pass through entity for tax purposes, which means that shareholders in an LLC only have to pay taxes on their personal gain and nothing in corporate tax. Shareholders are taxed in proportion to their ownership percentage. This is a tremendous advantage for start-up companies who can avoid business and sometimes personal taxes when the company is growing and before it begins to show a profit. In addition, a LLC uses an Operating Agreement instead of By-Laws, which are typically easier to amend. In addition, an LLC may be an advantageous vehicle for start up entrepreneurs if their company is going to show a loss. Here the members of the LLC may be able to take the losses associated with the business and use them to reduce their tax liability on their ordinary income. They can typically do so to the extent of their basis. In contracts, the losses accrued under a C Corporation can not be passed on to the shareholders. Rather they can be carried back 2 years or carried forward 20 years to reduce the gains to at the corporate level. There are some drawbacks to using a LLC. Most states cap the number of members a LLC can have. For this reason, and others, LLCs are not the preferred method of incorporation for public companies or companies that intend to eventually have an IPO. LLCs are a relatively recent corporate invention, and as such, the courts are still analyzing their benefits versus potential drawbacks. While the benefits to the business owners are clear, courts may begin to take a more hard-line approach to the freedoms extended to LLCs. In addition an LLC is a more difficult vehicle to use in a venture business. Where there are numerous investors and equity stakeholders, the ability to offer shares and stock options is very advantageous. An LLC is much more limited in its ability to provide for the division of equity amongst many different parties. In addition, venture capital firms are hesitant to invest in companies that are structured as