Why Your Small Business Should (Likely) Be An LLC
By Kevin Vela
UPDATE: This blog was formerly titled, “Why Your Startup Or Small Business Should (Likely) Be An LLC.” However, after the passing of the Tax Jobs and Cuts Act of 2017, we removed “startups” from the title. You see, in the venture world, conventional wisdom has always held that a C-Corporation was the best vehicle for a startup. Based on the reasons below I had always felt that an LLC was a viable option; but after the 2017 tax reform, I’ve changed my mind. The tax consequences of a C-Corp are no longer as consequential in comparison to an LLC, and a C-Corp’s ability to scale, as well as the widespread preference by venture investors now trump the much smaller tax burden. Thus, I’ve fallen in line with the vast majority of venture attorneys and am actively recommending C-Corps for startups.
Around VW, LLCs are the preferred vehicle for Texas small businesses and startups. A Limited Liability Company (LLC) is simple to setup, it is extremely flexible regarding the structure and the rights and obligations of the members, and it is advantageous from a tax perspective. Now granted, LLCs are not always the right fit. If your idea is the next Groupon, or you will be a Google target, then a C-Corp may be best for you.
But for the vast majority of small business entrepreneurs, an LLC makes the most sense. Let me explain why.
It’s the least expensive entity to form
The Texas Secretary of State filing fees are $300, which is the same as a corporation’s, and $450 less than a partnership’s. But when you include the legal fees associated with organization docs, the LLC comes out a big winner. Corporations have additional documentation and take more time (meaning more costs) to govern. Limited Partnerships not only have higher incorporation fees, but require a General Partner as well. Most General Partners are LLCs or S-Corps, so you’ll have additional Secretary of State filing fees there.
It’s very flexible
What I love about LLCs is that you can really make them what you want them to be. Want your only member to be another entity, instead of a natural person? Check. Need pass through taxation a la a partnership? No problem. Need classes of members with different distribution or voting rights? You got it. Need a series of LLCs for your real estate interests? Bingo. Moreover, there is no annual meeting requirement, which limits governance expenses for small businesses and startups.
We’ve structured LLCs that resemble partnerships (one managing member and several passive ones), and we’ve also set them up with multiple classes of members and a board of directors in a fashion that represents an S or C-Corp. An LLC can do it all.
It limits liability
Under an LLC, members (the partners in the company) are protected from liability for acts and debts of the LLC beyond their capital contributions. It is incredibly difficult to “pierce the corporate veil” of an LLC.
It’s tax friendly
We always recommend that you have a good CPA in your back pocket, but an LLC allows you to be taxed like a partnership, which means that income only gets taxed as a pass-through to the individuals. Do note, however, that Texas now charges franchise taxes on all entities in Texas. That said, tax consequences of an LLC are still more favorable than a C-Corp and some S-Corps.
It can be converted
If the need arises, you can convert your LLC into a Corporation, Limited Partnership, or even a Real Estate Investment Trust. To be honest, you can convert your LLC to a General Partnership, but I would only recommend that under the narrowest of circumstances.
As I mentioned above, for companies that will likely raise substantial amounts of capital, corporations are preferred. If you are unsure, consult with an attorney, or give us a call. But for the majority of startups or small businesses, LLCs are a one-size fits all solution.
Please note that choice of entity is a critical decision and you should consult with a CPA and attorney before incorporating.