AD: PART II
LLC Disadvantages
While a limited liability company (LLC) offers many advantages over other forms of business entity, there are also some disadvantages. Some of the drawbacks to selecting an LLC over another entity are:
* Earnings of most members of an LLC are generally subject to self-employment tax. By
contrast, earnings of an S corporation, after paying a reasonable salary to the
shareholders working in the business, can be passed through as distributions of profits
and are not subject to self-employment taxes.
* Since an LLC is considered a partnership for Federal income tax purposes, if 50% or
more of the capital and profit interests are sold or exchanged within a 12-month period,
the LLC will terminate for federal tax purposes.
* If more than 35% of losses can be allocated to nonmanagers, the limited liability
company may lose its ability to use the cash method of accounting.
* A limited liability company which is treated as a partnership cannot take advantage of
incentive stock options, engage in tax-free reorganizations, or issue Section 1244
stock.
* There is a lack of uniformity among limited liability company statutes. Businesses that
operate in more than one state may not receive consistent treatment.
* In order to be treated as a partnership, an LLC must have at least two members. An S
corporation can have one shareholder. Although all states allow single member LLCs,
the business is not permitted to elect partnership classification for federal tax
purposes. The business files Schedule C as a sole proprietor unless it elects to file as a
corporation.
* Some states do not tax partnerships but do tax limited liability companies.
* Minority discounts for estate planning purposes may be lower in a limited liability
company than a corporation. Since LLCs are easier to dissolve, there is greater access
to the business assets. Some experts believe that limited liability company discounts
may only be 15% compared to 25% to 40% for a closely-held corporation.
* Conversion of an existing business to limited liability company status could result in tax
recognition on appreciated assets.
EXPLANATIONS:
A. Many states levy a franchise tax or capital values tax on LLC’s States include but
are not limited to
Alabama, California, Kentucky, New York, Pennsylvania, Tennessee, and Texas.
Beginning in 2007, Texas has replaced it franchise tax with a “margin Tax. In
essence, this franchise or business privilege tax is the “fee” the LLC pays the state
for the benefit of the Limited Liability. The franchise tax can be an amount based
on revenue, an amount based on profits, or an amount based on the number of
owners or the amount of capital employed in the state, or some combination of
those factors, or simply a flat fee, as in Delaware. Effective in Texas for 2007 the
franchise tax is replaced with the Texas Business Margin Tax. This paid as : tax
payable – revenues minus some expenses with an apportionment factor. In most
states, However, the fee is nominal and only a handful charge a tax comparable to
the tax imposed on corporations.
B. It may be more difficult to raise financial capital for an LLC as investors may be
more comfortable investing funds in the better-understood corporate form with a
view toward and eventual IPO. One possible soulution may be to form new
corporation ad merge into it , dissolving the LLC and converting into a
Corporation.
C. The LLC form of organization is relatively new, and as such, some states do not
fully treat LLCs in the same manner as corporations for liability purposes, instead
treating them ore as a disregarded entity, meaning an individual operating a
business as an LLC may in such case be treated as operating as a sole
proprietorship, or a group operating as an LLC may be treated as a general
partnership, which defeats the purpose of establishing an LLC in the first place, to
have limited liability, a sole proprietor has an unlimited liability for the business, in the
case of a partnership, the partners have a joint and several liability, meaning any and
all of the partners can be held liable for the business’ debts no matter how small there
investment or percentage of ownership is.
D. Although there is no statutory requirement for an operating agreement in most states,
members who operate without one may run into problems.
E. Some people, such as new business people, may not be familiar with the governance of
LLCs. Unlike corporations, they are not required to have a board of directors or
officers.
F. The principals of LLCs use may different titles,--e.g. member, manager, managing
member, managing director, chief executive officer, president and partner. As such, it
can be difficult to determine who actually had the authority to enter into a contract
on the LLC’s behalf.
G. Taxing jurisdictions out the US are likely to treat a US LLC as a corporation, regardless
of its treatment for US tax purposes, for example if a US LLC does business out the US
or a resident of a foreign jurisdiction is a member of a US LLC.
H. Some creditors will require owners of up and starting LLC’s to cosign for the LLC’s
loans, thus making the owners equally liable for the debt as the LLC is , and effectively
removing the very purpose of forming an LLC, Limited Liability.
I. STATE AND FEDERAL FILING REQUIREMENTS
1. There are three types of state filings:
a, The tax return for the LLC;
b. The tax return for the resident or nonresident members; and
c. The Annual report for the LLC
II. TOO MANY LLC’S
A. LLC’s provide protection to its owners for debts, unrelated to the
business
In that LLC property and LLC interest generally cannot be directly seized
Or attached by creditors of debtor members- the charging order.
B. The theory was to separate assets with great liability for assets with little
liability with different LLC’s
C. This often created multi-LLC’s in order to obtain the limited liability
D. The Delaware series creates separate”series’ within an LLC whose debts and
other liabilities are enforceable against that series alone.
1. Separate protected “cells” within one limited liability “container”
eliminates the need to create separate entities.
2. Each series can designate members, manages or LLC interests that have
separate rights and duties with respect to the specific LLC property or
obligations.
3. Each Series must be treated separately with separate records and
assets assigned and accounted for separately by the series.
4. Public notice must be made including the series limitation in the LLC’s
Certificate of Formation.
EXAMPLE: John has 3 rental properties, a commercial property worth 3 million, and apartment complex worth $750,000 and a small residential rental property worth $100,00.00
The renter in the residential property allows her child( rug Rat) to eat a piece of pain toff the wall which is lead based. He gets sick and she sues the LLC. She is successful in court and the judge awards her all the property in the LLC which includes the commercial property and the apartment complex.
Before the Delware series John would have to create three different LLC’s. Now she has one LLC with tree series. Each separate from each other.
OTHER STATES ARE NOT ADOPTING SIMILAR LEGISLATION TO THE DELAWARE LLC. DELAWARE WAS SIMPLY THE FIRST OF SUCH TO ADOPT THE LAW.
NEXT WEEK FRIDAY, JULY 25 WE WILL HAVE A VENDORS TABLE AT THE EXPEDITERS EXPO AND WILL POST PART III – THE UGLY THE FOLLOWING MONDAY OR TUESDAY. ,
tHANKS FRANK
LLC Disadvantages
While a limited liability company (LLC) offers many advantages over other forms of business entity, there are also some disadvantages. Some of the drawbacks to selecting an LLC over another entity are:
* Earnings of most members of an LLC are generally subject to self-employment tax. By
contrast, earnings of an S corporation, after paying a reasonable salary to the
shareholders working in the business, can be passed through as distributions of profits
and are not subject to self-employment taxes.
* Since an LLC is considered a partnership for Federal income tax purposes, if 50% or
more of the capital and profit interests are sold or exchanged within a 12-month period,
the LLC will terminate for federal tax purposes.
* If more than 35% of losses can be allocated to nonmanagers, the limited liability
company may lose its ability to use the cash method of accounting.
* A limited liability company which is treated as a partnership cannot take advantage of
incentive stock options, engage in tax-free reorganizations, or issue Section 1244
stock.
* There is a lack of uniformity among limited liability company statutes. Businesses that
operate in more than one state may not receive consistent treatment.
* In order to be treated as a partnership, an LLC must have at least two members. An S
corporation can have one shareholder. Although all states allow single member LLCs,
the business is not permitted to elect partnership classification for federal tax
purposes. The business files Schedule C as a sole proprietor unless it elects to file as a
corporation.
* Some states do not tax partnerships but do tax limited liability companies.
* Minority discounts for estate planning purposes may be lower in a limited liability
company than a corporation. Since LLCs are easier to dissolve, there is greater access
to the business assets. Some experts believe that limited liability company discounts
may only be 15% compared to 25% to 40% for a closely-held corporation.
* Conversion of an existing business to limited liability company status could result in tax
recognition on appreciated assets.
EXPLANATIONS:
A. Many states levy a franchise tax or capital values tax on LLC’s States include but
are not limited to
Alabama, California, Kentucky, New York, Pennsylvania, Tennessee, and Texas.
Beginning in 2007, Texas has replaced it franchise tax with a “margin Tax. In
essence, this franchise or business privilege tax is the “fee” the LLC pays the state
for the benefit of the Limited Liability. The franchise tax can be an amount based
on revenue, an amount based on profits, or an amount based on the number of
owners or the amount of capital employed in the state, or some combination of
those factors, or simply a flat fee, as in Delaware. Effective in Texas for 2007 the
franchise tax is replaced with the Texas Business Margin Tax. This paid as : tax
payable – revenues minus some expenses with an apportionment factor. In most
states, However, the fee is nominal and only a handful charge a tax comparable to
the tax imposed on corporations.
B. It may be more difficult to raise financial capital for an LLC as investors may be
more comfortable investing funds in the better-understood corporate form with a
view toward and eventual IPO. One possible soulution may be to form new
corporation ad merge into it , dissolving the LLC and converting into a
Corporation.
C. The LLC form of organization is relatively new, and as such, some states do not
fully treat LLCs in the same manner as corporations for liability purposes, instead
treating them ore as a disregarded entity, meaning an individual operating a
business as an LLC may in such case be treated as operating as a sole
proprietorship, or a group operating as an LLC may be treated as a general
partnership, which defeats the purpose of establishing an LLC in the first place, to
have limited liability, a sole proprietor has an unlimited liability for the business, in the
case of a partnership, the partners have a joint and several liability, meaning any and
all of the partners can be held liable for the business’ debts no matter how small there
investment or percentage of ownership is.
D. Although there is no statutory requirement for an operating agreement in most states,
members who operate without one may run into problems.
E. Some people, such as new business people, may not be familiar with the governance of
LLCs. Unlike corporations, they are not required to have a board of directors or
officers.
F. The principals of LLCs use may different titles,--e.g. member, manager, managing
member, managing director, chief executive officer, president and partner. As such, it
can be difficult to determine who actually had the authority to enter into a contract
on the LLC’s behalf.
G. Taxing jurisdictions out the US are likely to treat a US LLC as a corporation, regardless
of its treatment for US tax purposes, for example if a US LLC does business out the US
or a resident of a foreign jurisdiction is a member of a US LLC.
H. Some creditors will require owners of up and starting LLC’s to cosign for the LLC’s
loans, thus making the owners equally liable for the debt as the LLC is , and effectively
removing the very purpose of forming an LLC, Limited Liability.
I. STATE AND FEDERAL FILING REQUIREMENTS
1. There are three types of state filings:
a, The tax return for the LLC;
b. The tax return for the resident or nonresident members; and
c. The Annual report for the LLC
II. TOO MANY LLC’S
A. LLC’s provide protection to its owners for debts, unrelated to the
business
In that LLC property and LLC interest generally cannot be directly seized
Or attached by creditors of debtor members- the charging order.
B. The theory was to separate assets with great liability for assets with little
liability with different LLC’s
C. This often created multi-LLC’s in order to obtain the limited liability
D. The Delaware series creates separate”series’ within an LLC whose debts and
other liabilities are enforceable against that series alone.
1. Separate protected “cells” within one limited liability “container”
eliminates the need to create separate entities.
2. Each series can designate members, manages or LLC interests that have
separate rights and duties with respect to the specific LLC property or
obligations.
3. Each Series must be treated separately with separate records and
assets assigned and accounted for separately by the series.
4. Public notice must be made including the series limitation in the LLC’s
Certificate of Formation.
EXAMPLE: John has 3 rental properties, a commercial property worth 3 million, and apartment complex worth $750,000 and a small residential rental property worth $100,00.00
The renter in the residential property allows her child( rug Rat) to eat a piece of pain toff the wall which is lead based. He gets sick and she sues the LLC. She is successful in court and the judge awards her all the property in the LLC which includes the commercial property and the apartment complex.
Before the Delware series John would have to create three different LLC’s. Now she has one LLC with tree series. Each separate from each other.
OTHER STATES ARE NOT ADOPTING SIMILAR LEGISLATION TO THE DELAWARE LLC. DELAWARE WAS SIMPLY THE FIRST OF SUCH TO ADOPT THE LAW.
NEXT WEEK FRIDAY, JULY 25 WE WILL HAVE A VENDORS TABLE AT THE EXPEDITERS EXPO AND WILL POST PART III – THE UGLY THE FOLLOWING MONDAY OR TUESDAY. ,
tHANKS FRANK