In general, it has been overly emphasized the creation and management of an LLC are much easier and more flexible than that of a corporation. Still, there are advantages and disadvantages to both types of business structures.
C corporation
Two types of corporations can be formed: an S corporation and a C corporation. We are here describing C corporation that is a common type of the corporations.
It generally requires more paperwork than LLC, meeting many more guidelines, electing a board of directors, adopting bylaws, having annual meetings, and creating financial statements.
C corporation is an entity type with long history and well recognized domestically and internationally and preferred by investors. For businesses that eventually seek to issue stock, a C corporation can easily issue shares to raise capital for further expansion of the business. Best if you plan to go public one day; can issue shares to funders, employees and investors.
C corporation is taxed at the corporate level, separately from its owners, through a corporate income tax. Corporations offer more flexibility when it comes to their excess profits. Whereas all income in an LLC flows through to the owner members. C corporations have the advantage of allowing profits to remain with the corporation and paying them out as dividends to shareholders.
There is the issue of double taxation for corporations. This refers to taxes being paid twice on the same income. This is because corporations are considered separate legal entities from their shareholders. Thus, corporations pay taxes on their earnings, while their shareholders also possibly pay taxes on any dividends that they receive from the corporation. Tax planning is necessary to avoid or minimize double taxation. There is the US Japan Tax treat available to reduce most double taxation.
LLC
Most states require filing articles of organization with the secretary of state. Once an LLC is formed, it’s good business practice to set out the roles and responsibilities of the members. The members are individuals with an ownership interest in the LLC. Most LLCs use an operating agreement to define these roles. Drafting an operating agreement is not necessary for an LLC to be valid, but it is a prudent course of action. If no operating agreement is created, then an LLC is governed by the default rules contained in state statutes.
The operating agreement sets forth the rights and responsibilities of the members. It can define the business relationship and deal with issues of capital structure, allocation of profits and losses, provisions for the buyout of a member, provisions in case of the death of a member, and other important business considerations.
Since LLC is relatively a new type of entity, LLC is not recognized globally; taxed as a corporation in some countries including Japan. Another disadvantage is the differences among states in the statutes that govern LLCs. This can lead to uncertainty for LLCs that operate in multiple states. The differences in rules and regulations can result in additional paperwork and inconsistent treatment across different jurisdictions.
There are other drawbacks to an LLC as well. The purpose of an LLC is to protect its members from any liability. If the company fails to meet its obligations, then creditors can target only the LLC, not the assets of the members. However, there are certain situations in which an LLC can be automatically dissolved, leaving members open to risk. Automatic dissolution can be triggered if an LLC fails to report its filings on time; a death or withdrawal of any member occurs, unless succession provisions are outlined in the operating agreement; a change in the structure of the LLC, such as a merger; and any terms with expiration dates. In these situations, an LLC can continue doing business, but the liability structure of the members may alter, defeating the initial purpose of creating the LLC.
The Internal Revenue Service (IRS) does not view an LLC as a separate vehicle for tax purposes, which allows for greater flexibility. Members can choose how they are taxed. They can be treated as a sole proprietorship, a partnership, or a corporation.
LLC members also have to pay a self-employment tax if the member is a individual, which includes a 12.4% tax for Social Security and a 2.9% tax for Medicare.
LLC can’t go public.
Though similar in many ways, LLCs and corporations have quite a few distinctions that bring both advantages and disadvantages to each. As an individual starting their own business, it’s important to understand all of the nuances involved and choose the right structure for your company.
