While you’re probably familiar with a business entity known as a Limited Liability Company, or LLC, you may not realize there are different types of LLC business structures.
If the business has just one member, it’s known as a single-member LLC. If there are two or more members, it’s called a multiple-member, or multi-member, LLC. You may also be aware that this type of business can be managed by its owners, who are called members, or by a non-member. When members manage the business, it’s called a member-managed LLC and when a non-member runs it, it’s known as manager-managed.
There also are relatively obscure types of LLCs, such as an anonymous LLC, sometimes known as a confidential or private LLC. This variation enables members to form the business without disclosing ownership information, but it’s only permitted in a few states.
Another type—a restricted LLC—stipulates that owners must wait 10 years from the time the business is founded to start taking any business distributions. That too is only available in a few states.
For our purposes, we’ll take a closer look at the differences between single-member and multiple-member LLCs and member-managed and manager-managed. I’ll explain the distinctions between domestic and foreign LLCs and provide a little information about several variations that may be of interest to someone running a small business: Professional, Low-Profit, and Series.
Limited Liability Company Basics
Just as a refresher, an LLC is a type of business entity that’s popular with entrepreneurs because it provides personal liability protection for its owners. It’s a separate legal entity from its owners, which means that members’ personal assets are normally protected in the event the business is sued or can’t pay its debts.
While an LLC is by default taxed as a Sole Proprietorship or General Partnership, meaning that all profits, losses, and tax responsibilities are passed through to the members’ personal tax returns, members can choose instead to have the business taxed as a Corporation. Being taxed as a Corporation means that members will only have to pay self-employment (Social Security and Medicare) taxes on their wages and salaries, not on any distributions they receive, therefore lessening their tax obligations.
Another benefit of this business entity is that it can have an unlimited number of members, making it relatively easy to expand the business with new members and their financial contributions. And being structured as an LLC instead of a Sole Proprietorship or General Partnership carries the advantage of increased credibility among prospective customers, suppliers, and investors.
Single-Member vs Multiple-Member LLC
The owner of a single-member LLC reports income and expenses on their personal tax form, just as a Sole Proprietor would, and pays taxes to the IRS based on their personal income rate. In a business with more than one member, each member pays income tax based on their percentage of ownership, similar to a partnership. The business must file a Form 1065, U.S. Partnership Return of Income and send each member a Schedule K-1. Members then must report the amounts shown on their Forms K-1 on their own Forms 1040.
Owners of both single-member and multiple-member LLCs can elect to be taxed as a Corporation by filing a Form 8832 with the IRS. There is a lot involved in figuring out which method of taxation is most advantageous for your business, and I advise any business owner to consult with a tax attorney or qualified accountant before making decisions regarding taxes.
Multiple-member LLCs are required to use an employer identification number (EIN) to file taxes, but a single-member can use a Social Security number instead. If a single-member LLC hires one or more employees, however, it must obtain an EIN.
Both single and multi-members must file formation paperwork, usually called Articles of Organization, with the state in which they’ll be conducting business. Both types of businesses also must file annual reports and meet other requirements to remain in compliance with the state.
Member-Managed vs. Manager-Managed LLC
A member-managed LLC is run by all the owners of the company, while one that is manager-managed has a separate manager responsible for daily operations. If the business has only one member, that person is automatically considered the manager.
Managers are named in the operating agreement, which all owners sign. Manager-managed companies must define certain rights and responsibilities for named managers that differ from other owners. Most businesses that elect to be manager-managed choose one or more members to serve as managers, although some hire outside managers.
Managers who also are members normally have voting rights and the ability to negotiate loans or handle other business, financial, and operational tasks. Non-managing members are still owners but remove themselves from the direct operations of the business. That arrangement works well in cases such as when family members invest in the business with the expectation of financial reward but not wanting to be directly involved with operations.
Although states don’t require one, every LLC should have an operating agreement that spells out in detail each member’s responsibilities in running the company, their decision-making authority, and how profits will be distributed. If the business is manager-managed, it should have a detailed agreement that states the responsibilities of the manager, how management decisions will be made, how managers are removed, and other pertinent information.
Domestic vs Foreign LLC
Domestic and foreign in this context refers to the state in which the business is created. A company that is registered in Michigan and does business in Michigan is operating as a domestic LLC. If the company is registered in Michigan and doing business in Illinois, however, it is operating as a foreign entity in Illinois.
It’s important to understand that “doing business” in another state doesn’t mean selling your products or services to customers there. It varies from state to state, but doing business usually refers to these types of activities:
- Opening a bank account in a state other than where the business is registered
- Operating an office, store, manufacturing facility, or distribution site there
- Owning business property in another state
- Selling in a different state through salespeople or distributors
Some LLCs register in a state other than where they’re located to take advantage of business-friendly tax laws. That means if the company wants to conduct business in its home state, it will need to register there as a foreign LLC. That involves paying two sets of filing fees; having two registered agents, which is someone designated to receive legal correspondence on behalf of the business; and paying annual fees and filing annual reports in two states.
Unless there are particular circumstances that warrant registering your business in a state other than your own, I’d recommend filing as a domestic LLC in your own state.
Different Flavors of LLCs
As mentioned earlier, there are different types of LLCs outside of the number of members, how they are managed, or where they’re registered to do business.
Professional LLC
A Professional Limited Liability Company, or PLLC, is a business for licensed professionals such as doctors, engineers, lawyers, or architects. Some states require professionals to operate within this type of business structure, while others do not.
A PLLC provides the same protections and flexibility as a standard LLC but does not protect a professional from being liable from their own malpractice. If a doctor commits malpractice and causes harm to a patient, for instance, they can be sued by the patient, putting their personal assets at risk. Other doctors in the company, however, are protected from being held personally responsible for their partner’s actions.
Generally, the state licensing board for the profession forming the business must approve the articles of organization and other required paperwork before it can be submitted to the state’s Secretary of State or other filing office.
PLLCs have some advantages but are not perfect. Difficulties can arise when a licensed member dies, loses their license, or wishes to exit the business. In some cases, the company must be dissolved and then reformed. Transfer of ownership in a sale may also be restricted at the state level.
Low-Profit LLC
A Low-Profit LLC, or L3C, is a relatively new model that’s required to provide a service or product that benefits the public. They’re only available in about a dozen states at this point but are gaining in popularity. Some examples of Low-Profit LLCs include farmers markets, affordable housing developers, and certain research organizations.
L3Cs are for-profit businesses and are not tax-exempt, but making a profit must be secondary to the primary objective of providing a service to the public. They were primarily created to make it easier for socially conscious entrepreneurs to attract funding from private foundations.
This variation is formed the same way as standard LLCs, must follow the same compliance rules, and provide the same protections and flexibility. As the number of socially motivated businesses increases, many experts feel that more states will allow for Low-Profit LLCs.
Series LLC
Popular among real estate investors and other companies that operate multiple lines of business, a Series LLC consists of an umbrella, or parent LLC, and one or more sub-LLCs. Each sub, often referred to as cells, operates as a separate business while being maintained by the primary entity.
Series LLCs are set up to protect each line of business from risks encountered by the others. A real estate investor with eight rental properties, for instance, may set up a Series LLC with eight cells, each representing one of the properties. If the investor is sued because of an issue with one of the properties, the other properties are protected because they operate as separate businesses. All the members of this type of business, however, share profits and losses.
Series LLCs, which got their start in Delaware, are not permitted in every state, although the number of states allowing them is increasing.
Additional Articles and Information
- Sole Proprietorship vs. LLC
- LLC vs. Corporation
- LLC vs. Partnership
- S Corporation vs. LLC
- LLC vs. S Corp vs. C Corp
- LLP vs. LLC
- LLC vs. PLLC
Before You Decide
How you structure your business is important, as it will affect your future operations and ultimately, the success of the company. If you have an LLC or are thinking of starting one, it’s advisable to seek counsel from someone who can help you decide which type is best for your business needs, how it will be managed and taxed, and in which state (or states) it should be registered.
Once you’re ready to get started, CorpNet team members will work with you to make sure all paperwork and applications are completed correctly and submitted promptly and cost-effectively.
