Forming an LLC? 6 Things You Should Know.
If you are considering forming a Limited Liability Corporation (LLC) before you get started, here are the six things you should be taking into consideration.
This is important because you do not want to learn later you are out of compliance with rules which must be adhered to and learn you have legal or tax issues later.
Table of Contents
1. Understanding the Differences Between State Requirements
Each state treats LLCs slightly differently. However, there is something you need to understand about forming an LLC in a state where you are not a resident — e.g., you live in CT (see Section 34-275a of the Connecticut LLC Act) and you form your LLC in Nevada — you must register the LLC as a foreign LLC in order to conduct business in CT. There are some other things you should take into consideration before deciding where to file your LLC including:
- Fees — each state has its own unique fee structure for LLC filings. You can review information on your home state’s website by searching for the Secretary of State using the NASS (National Association of Secretaries of State) website. Some states have specific fees, including franchise fees, which are unique to their state.
- Regulations — while an LLC is designed to help protect the business owners from personal liability, there are state specific requirements including filing, formation, and regulations which must be adhered to. This information is typically available from the Secretary of State as well.
- Ownership — most states do not have restrictions on who may be an owner in an LLC. Most states allow for single-owner LLCs, foreign corporations, and other business entities.
- Taxation — LLCs are pass-through entities, and the owners are going to pay taxes on their income based on where they live. Be sure you understand what tax forms must be issued prior to formation so you can remain in compliance with state and federal tax requirements.
You should also remember that if you are forming an LLC in some states, there are restrictions on the type of business which may be conducted.
One example of this is in California, where you may not form an LLC if you are involved in providing accounting, architectural, or massage therapy services.
Whenever you are considering an LLC, if you do not understand the limitations you are working under, you could face steep fines, and other unintended consequences.
2. Choosing Your Business Name When Filing an LLC
Each business must conduct a name search before filing their paperwork with the state. Failure to conduct a proper search could result in confusion with other businesses in your state.
Remember, there can be similarities in a business name, but your business name should be unique and descriptive whenever possible.
A name search can be conducted on most state business entity websites. For example, in Massachusetts, you would go to the Secretary of State websites and searching for a business name that is either in use or reserved by another business.
The sooner in the process you reserve your name, the more likely you are to be able to reserve the name you prefer. In general, a name reservation is valid for a period which may be extended by paying a modest fee.
3. Understanding Registered Agent Requirements for LLCs
Each LLC is required to assign or appoint a registered agent. Registered agents are required to be available during normal business hours. The purpose of a registered agent is to have someone available to accept delivery of correspondence from the government, process service, and compliance materials.
While it is possible to act as your own registered agent, it does mean you have to be prepared to be available during normal business hours 52 weeks out of each year. Therefore, most who form an LLC hire a registered agent to act on behalf of the LLC.
4. Finances and LLCs — Business Banking
Anytime you form a business, you should ensure that your personal and business finances are separate. With an LLC, this could be even more important, or you could be taking on risks you were hoping to avoid by forming an LLC in the first place.
Having business banking relationships also allows a business to seek business loans, helps establish a credit history for the business, and helps maintain credibility with vendors. Before forming a bank account, you will have to apply for an EIN (Employer Identification Number).
The process for requesting an EIN is simple and may be done online in minutes during normal business hours. Simply go to the Internal Revenue Service (IRS) website and follow the instructions which are provided.
5. Understanding the Tax Implications of an LLC
LLCs have a great deal of flexibility when dealing with taxes. However, the IRS has two classifications it normally assigns to LLCs, which are either a partnership or a corporation.
When there are more than two owners, the IRS will automatically treat an LLC as a partnership. When there is only one owner, the IRS considers the LLC as a business interest which is not separated from the owner, it is considered a sole proprietorship.
Once your LLC is formed, you may file Form 8832 to change the status of your LLC. Keep in mind, the change may not occur immediately.
6. Annual Compliance Issues for LLCs
Each state has different annual requirements for an LLC to remain in compliance. Some states may require some of the following documents on an annual basis:
- Annual Report — these reports are designed to provide a snapshot of what your business did during the prior fiscal year. Not only will this report include financial information, but it will also include information such as your registered agent’s contact information, your business address, and names of the owners of the company.
- Franchise Taxes — many states impose a franchise tax on LLCs. Texas defines a franchise tax “as a privilege tax imposed on each taxable entity formed or organized in Texas or doing business in Texas”. These states which require a franchise tax include Delaware, Alabama, Arkansas, Illinois, Georgia, Louisiana, Missouri, Mississippi, North Carolina Oklahoma, New York, Texas, Tennessee, Pennsylvania, and West Virginia.
- Others — you should always review your state’s requirements for annual reporting to ensure you remain in compliance with all regulations. Failure to file the proper reports could result in your business being dissolved without your knowledge.
- Tax Filings — as with any other business, there are annual tax filing requirements on both state and federal levels. Tax forms should be issued in compliance with the type of entity you have designated. Most owners will be required to pay self-employment taxes on the earnings they get from an LLC which means as an owner, you will have to ensure the issuance of the proper tax forms for these purposes.
Since each state has different rules, it is imperative that your business remain in compliance with all rules and regulations which govern the LLC in your state of registration.
In many cases, a registered agent can help with many of the compliance issues that an LLC will face.
LLC Benefits Often Outweigh the Downsides
The primary reason most business owners take the option of filing an LLC is to protect themselves from personal financial liability.
Before forming an LLC, it is imperative that you ensure that you have the basic information required to ensure that protection remains in place.
This means making sure that your name meets the state requirements, that your documents are properly set up, and that your annual reporting requirements are in full compliance with all state regulations.
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