Creating a Limited Liability Company

Many founders decide to choose a Limited Liability Company (LLC) for their type of business model. This model is especially suited to small businesses since – as the name suggests – the liability that comes from the business activities is limited. One advantage is that the founders own pockets won’t take a hit if the business ends up not doing so well. The second advantage is that there are only a few requirements so it’s relatively easy to set up. Depending on the complexity of your company, you may only need a couple of hours until you’re ready to file the forms.

What is a Limited Liability Company?

A LLC is a business entity that combines the limited liability protection of a business with the flexible tax and organizational structure that can be seen in a partnership. The model is known as a hybrid due to the fact that it has features of both a partnership and a corporation. To show that an LLC isn’t a corporation, the founders are known as “members” and those managing are referred to as “managers”. It’s not unusual for the members to actually be the managers, especially when the LLC only consists of a few people.

When it comes to taxes, LLCs differ from corporations in that they aren’t taxed as a separate business entity (unless they want to be). Instead, all profits and losses go to each member, meaning that each member reports profits and losses on their tax return, just like the owners of a partnership would do.

How widespread are LLCs?

LLCs are very popular and in every state (excluding New York), LLCs outnumber corporations two to one. There are three main reasons that so many business owners opt for LLCs:

  • The owner chooses how simple or complicated the LLC should be. The amount of paperwork (e.g. contracts, agreements, etc.) and how much interaction is to be had with the employees (e.g. frequency of meetings) is totally up to the person or persons that created the LLC.
  • If an LLC consists of one member then it is considered to be a sole proprietorship when it comes to taxes, but if there are multiple members then it’s considered a partnership. This means that with a sole member, the company doesn’t even have to file a tax return; the owner simply reports on their own Form 1040.
  • If the owner doesn’t want the business to be a sole proprietorship or partnership anymore, it can easily be changed to a C or S corporation by filling out a short form with the IRS. You can’t keep changing though; this option can only be used once every 5 years.

How to create a LLC

There are some differences between the various states, but here are the basic steps to setting up your own LLC:

Obtain a copy of the LLC Articles of Organization form for the state you’re in

Here you can find the LLC Articles of Organization form for every state. In some states, you have to post a notice in the newspaper declaring your intentions so make sure to check if this applies to you.

Choose a name for your business

Each state has different rules regarding which names are allowed so make sure whichever name you choose complies with their rules. Certain words are forbidden such as “corporation”, “insurance”, “incorporated”, etc. To make it clear what kind of company you’re running, the name must end with “Limited Liability Company” or “LLC”, and it must be completely different from any other names registered in your state. Websites such as LegalZoom reveal whether your desired business name is available in your state. It’s often possible to reserve the desired name (for a small fee) until you file the form introduced in the next step.

Tip

Once the business name has been decided, it makes sense to buy the corresponding domain as soon as possible so you can be found online and have a wider reach.

Fill out the LLC Articles of Organization form

This form simply requires your company’s name, what purpose it serves, its address, and the registered agent that should receive any legal documents as well as the names of the initial members. At this point, you don’t need to explain how the ownership is distributed or who is in charge, just the names will suffice.

Publish a notice in your local newspaper

A few states require business owners to reveal their intention to create a LLC in the newspaper. Right now, the only two states that require this are New York and Arizona. The notice should be published before you file your Articles of Organization.

Submit your Articles of Organization form

Once the form is filled in, it needs to be sent to your Secretary of State. The appropriate filing fee must also be sent with it. You pay between $40 and $900 depending on which state you live in. Some states also charge a corporate tax, which needs to be paid at the same time.  Fill it out and file it with a state or local government agency. This can be done by mail, in person, and sometimes even electronically. After it has been approved, it means that the new entity has been legally created as a registered business within the state.

That’s the legal aspects done

Technically that is all you have to do legally, but there’s still the LLC Operating Agreement. However, this isn’t required by the state and can be taken care of after you’ve sent off all the legal matters. Companies with a single owner don’t need one of these agreements, but if there are multiple owners, it’s a good idea to sit down and draft a written agreement to make sure everyone is on the same page.

Prepare an LLC operating agreement

Even though this agreement doesn’t need to be filed, It’s important to create one so that the members know what their financial and management rights are as well as their responsibilities. It’s best to have it all in writing even if you’re working together with friends or family members as things could easily turn sour.

The agreement typically includes:

  • members’ percentage interest in the company
  • members’ rights and responsibilities
  • members’ voting power
  • allocation of profits and losses
  • management of the LLC
  • rules regarding meetings and voting
  • buy-sell provisions and what happens if a member wants to sell, becomes disabled, or dies.

Setting up a LLC: Your checklist

To make sure you keep an overview when starting a LLC, you should first compile a rough checklist:

  • Obtain an LLC Articles of Organization form for your state
  • Choose a business name
  • Fill out the LLC Articles of Organization form
  • Publish a notice in the newspaper (if applicable)
  • Submit your Articles of Organization form
  • Prepare an LLC operating agreement

What else is needed?

You need to provide a Registered Agent, which is a person or company that must have a physical address in the state in which the LLC has been formed. There must be someone available during business hours to accept any legal or state documents that the company might receive. There are companies such as MyCompanyWorks that provide the Registered Agent for you. Any documents you receive are scanned and e-mailed to you, or sent to you if a physical signature is required.

Once your company has been filed by the state, you should collect your Federal Employer Identification Number (FEIN), also known as “EIN” or “Tax ID Number”, although this is optional. This is issued by the Internal Revenue Service (IRS) and acts as an identification number for companies.

When you’ve completed the steps listed above, your Limited Liability Company is official! There’s still the task of obtaining the licenses and permits that all new businesses need before they can open their doors. These include a business license (also known as a “tax registration certificate”), a federal employer identification number, a seller’s permit, or a zoning permit.

How much does it cost to create an LLC?

We already explained at the beginning of the article that filing fees can range from $40 to $900 depending on the state. There’s also the fee that you might have to pay to re-file if the state conducts a name search during the filing process and finds out that the name is already in use (this is why it makes sense to check first). You may wish to trademark the name to stop other from using it or anything similar; this process can cost over $200.

If you live in one of the states where you must declare your intention of starting a LLC in the local newspaper, this doesn’t come cheap. In 2010, the fee to publish the notice in New York City was $1,250. If your company is not located in the state it’s registered in, you will require the services of a Register Agent (mentioned above), which equate to around $100 annually. In some states, it’s not unusual for LLCs to be charged a yearly license fee or franchise tax and the costs can vary dramatically; from $80 a year in Delaware to $800 a year in California.

Some businesses choose to enlist the help of a service to make sure the whole setting up process goes smoothly. Prices start from around $50, but vary if you want more services or want the whole process to move a little bit faster. If the whole set up is a bit complicated i.e. members have all invested different amounts into the business, you could consider hiring an attorney to help figure things out. You would have to factor the extra cost into your budget though.

How long does it take to create a LLC?

As is the case with a lot of things mentioned in this article, the time it takes to set up an LLC depends on which state the company is located in. Between a week and ten days is normal although some states might issue their approval in as little as three business days. Around the beginning and end of the year, you can expect the whole process to take a little bit longer.

Click here for important legal disclaimers.