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Limited liability company (LLC)

For the small business owner looking to form a business the best option is to either operate as an LLC or a Minnesota S Corporation.  The greatest advantage is that both provide limited liability for the owners, which means that the owners are not personally liable for business debts and claims of the business.  Limited liability means that if the business is unable to pay a supplier, lender, landlord or other creditor, that person cannot go after the personal assets of the owners.  The owners may lose their entire business, but would not lose their own assets. 

Both an LLC and a Minnesota S Corporation must be formed by filing certain documents with the Minnesota Secretary of State and following certain legal requirements.  The filing fee for both an LLC and a domestic corporation is $155.00 on-line or $135 by mail.  An LLC is governed by Minnesota Statute 322B and a Minnesota Corporation is governed by Minnesota Statute 302A.  In order to form an LLC or a Corporation you must file with the Minnesota Secretary of State. The organizer signs the Articles of Organization to create the LLC.  The incorporator signs the Article of Incorporation to form a Minnesota Corporation.  The Minnesota Corporation to be taxed as an S Corporation must then file IRS Form 2553. 

One of the main differences between an LLC and an S Corporation is that the LLC does not have as many legal formalities as an S Corporation.  However, an LLC should have an operating agreement that governs how the business is operated.  The Corporation will have by-laws, must hold meetings and maintain minutes. The LLC can make meetings optional in the operating agreement which makes for fewer formalities and less chance the members will violate the legal requirements. 

If the LLC or a corporation violates legal requirements and the LLC or Corporation is sued the liability shield can be pierced, if the LLC or Corporation does not follow the proper procedures. This would put the owners of the LLC or corporation at risk of being personally liable for the business debts or claims of the business.   Another difference between an LLC and the S Corporation is that LLC’s have no restrictions on what type of individuals or entities may hold ownership interest in the LLC, unless the LLC elects to pay taxes as a Corporation. 

With regard to ownership a Corporation is owned by shareholders.  A Corporation’s ownership is determined by the number of shares that each shareholder owns.  For an LLC ownership is determined by what percentage of interest the person has in the LLC.  An S Corporation can have a maximum of 100 shareholders.  LLC owners are called members and an LLC can have an unlimited number of members.  For a Corporation officers are elected by the Board of Directors.  For an LLC officers are elected by the Board of Governors.  A Corporation’s shareholders must be residents of the United States, but an LLC’s members do not have to be residents of the United States.  The officers of an LLC or Corporation can have the titles of President, Vice President, Secretary, Treasurer, or Chairman.  Both an LLC and a S Corporation may be owned by one individual. 

As far as taxes are concerned, an LLC and an S Corporation offer the same flow through tax treatment of a sole proprietorship or partnership.  You don’t have to pay a corporate tax for either entity.  If the Corporation doesn’t elect S Corporation status it will pay separate corporate taxes.  A significant difference between an LLC and an S Corporation is that owners of an LLC are required to pay Social Security and Medicare taxes on profits.   S Corporation stockholders are not required to pay these taxes on profits over and above the stockholder’s salaries.  However, both a corporation and an LLC can elect to be taxed as an S Corporation by filing IRS Form 2553.  The LLC would then be required to follow the formal procedures of a corporation. 

Form a Minnesota LLC Today.

Many solo business owners chose to forego filing as a Limited Liability Company or creating a Corporation, and instead operate as a sole proprietorship.  If your business is owned and controlled by one person and you do not file with the Minnesota Secretary of State, you will be considered by default to be a sole proprietorship unless you start working with a partner.

As a sole proprietor, you are personally liable for the debts and losses of your business.  An owner of this type of business can lose their personal assets in a lawsuit.  There is also less credibility since your business does not have the prestige of having "Inc." or "LLC" attached to your name.  Many small businesses are choosing to form an "LLC" Limited Liability Company because of the ease of forming this type of entity and the insurance and prestige that it provides.  A Minnesota LLC is governed by Minnesota Statutes Chapter 322b.

The LLC is fast becoming the entity of choice for closely held businesses in Minnesota and throughout the United States.  The LLC provides easy management, limited liability protection and pass-through taxation.  The LLC may have one or more owners who are called "members." Members of the LLC own a pro-rata share of the LLC, and therefore have rights to a pro-rata share of the LLC’s profits and losses.  Members may elect a manager to run the LLC.  The manager may be a member or a nonmember, and can be an individual or separate entity.  Most states do not restrict ownership and members may include individuals, corporations, other LLCs and foreign entities. There is no maximum number of members for an LLC.  Be advised that there are special rules for foreign LLCs.

In order to form an LLC, you must first file the "articles of organization" with the Minnesota Secretary of State and pay a filing fee of $155.  The LLC is created once the articles are filed. The articles of organization must disclose certain basic information, including the LLC’s name (which must contain the words "limited liability company" or the abbreviation "LLC"), the address of the company, along with the names and addresses of each organizer, and the period of existence of the LLC if other than perpetual.  The LLC must register with the Minnesota Secretary of State annually.  A Minnesota LLC that fails to file their annual registration is administratively terminated. Foreign LLCs (those organized under LLC statutes of other states) will have their authority to do business in Minnesota revoked.

The main benefit to forming a LLC is to obtain the "limited liability" so that if the owner of the business is sued for something related to the business, only the business assets are at risk and the owner’s personal assets are protected.  The LLC would be liable rather than the small business owner and the small business owner’s assets such as home, car and personal assets are protected from any judgment.

In certain circumstances, a creditor or other litigant may try to impose personal liability on the business owner by claiming that the LLC is a sham and was created merely to defraud creditors, or is being run as a sole proprietorship and has commingled funds of the LLC and the business owner.  The process of imposing personal liability is referred to as "piercing the corporate veil," or disregarding the corporate entity. For these reasons, it is wise for the LLC to obtain a business banking account separate from the business owner’s personal banking account and not commingle funds. The LLC should also obtain a federal employer identification number FEIN and a Minnesota Tax ID.

LLC’s can elect to be taxed as a sole proprietorship, a partnership, a corporation, or an S-Corp, as long as the LLC meets legal requirements and files the proper documentation.

A domestic LLC with only one member is disregarded as an entity separate from its owner and must include all of its income and expenses on the owner’s tax return.  This is called a pass-through entity.  Pass-through taxation means that unless the LLC chooses to be taxed as a corporation, it will be taxed as a sole proprietorship or a partnership. Pass through taxation means that the company itself does not have to pay taxes to the IRS, unlike a corporation which receives a double taxation.  Instead, each owner of the company will report their own profits or losses in the company on their tax returns.

A domestic LLC may file IRS Form 8832 to avoid either default classification and elect to be classified as an association taxable as a corporation.  If the LLC is eligible to be treated as a corporation that meets certain tests and wants to elect to be treated as an S corporation, it must timely file IRS Form 2553.  The LLC is like a corporation with fewer formalities.  The LLC is not required to hold board meetings, shareholder meetings, or prepare minutes that a corporation has to.

LLCs are not required to hold annual member meetings or manager meetings.  However, an LLC may choose to require such meetings in what is called the Operating Agreement. The Operating Agreement of the LLC is the equivalent of the bylaws of a corporation and determines how the LLC is governed.  LLCs are also not required to distribute an annual report to members advising of the status of the business.  However, LLC’s must make information available to members upon request.

By letting a corporation attorney set up a limited liability company for you, you will create a legal barrier between your business and your personal assets.  As a business owner, you can protect your personal assets and property, but you must take the appropriate actions. There are many laws which govern a Limited Liability Company that can seem very complex to the average person.  A business lawyer can discuss your options and help you start your business the proper way.  Our business attorneys are experienced in business law and can help you form a LLC and can also assist you with contracts, leases and employment law issues as your business grows.   

The LLC and the S Corporation are the preferred method of operating for a lot of small businesses in Minnesota.  If you would like assistance with forming a small business contact Holden Law Firm at 952-836-2640.

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