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Business School For Non-Business Minds: Inc. Or LLC?

Apr 20, 2008
Owning a business can be complicated enough without having to deal with all the confusing acronyms and abbreviations that assault you at every turn. Take these two: Inc. and LLC. What do they mean to you and your business?

Well, if you plan to make money at the business, you'll want to protect that money, right? That's where Inc. or LLC comes in. These are your two choices for incorporating a business.

Why should you incorporate? Because if your business goes down the drain for any reason, you don't want to go down with it. Basically, incorporation limits the liability business owners face if a business fails. As for Inc. or LLC, it's important to understand what both are and the pros and cons of each.

LLC stands for Limited Liability Corporation, meaning the business owners' liability is limited.

The idea of limited liability originated in Germany in the late 19th century, according to the website Limited Liability Company Reporter. By the 1940s, the idea had taken hold in 17 countries--but not the United States. In 1977, Wyoming became the first U.S. state to enact an LLC act modeled after the German statute. Other states eventually followed suit, though many of the laws varied.

Most new businesses opt for LLC because it has tax advantages over an Inc. LLCs don't suffer from the double-taxation issues regular corporations face and they are the most flexible when it comes to organization. For example, there are fewer rules regarding who can be a shareholder. They also tend to be more informally run than a regular corporation.

Before the LLC came around, small businesses were often organized as partnerships and sole proprietorships--which did not necessarily protect the business owners' assets.

Earnings and losses pass through to the owners and are included on their personal tax returns.

Among the disadvantages of an LLC: State tax law differences may make operating across state lines difficult. An LLC also can't go public, so if you're eyeing an IPO, avoid LLC.

The alternative to LLC is Inc., the abbreviation for incorporated. The biggest advantage of Inc. over LLC is that an Inc. can sell stock to make money. A new business can form a C corporation or an S corporation. The biggest difference between the two is how they are taxed.

C corporations face the aforementioned double-taxation in which both the company and its shareholders are taxed. S corporations are taxed like an LLC.

S corporations are most appropriate for small business owners and entrepreneurs who want the legal protection of a corporation but want to be taxed as if they were sole proprietors or partners. According to press reports, the number of S corporations is growing so fast it is surpassing the growth of C corporations.

Most new businesses opt for the S classification if they opt for incorporation at all. But the rules of S classification are narrow. For example, each stockholder must be a U.S. citizen or permanent resident, and there can never be more than 75 stockholders. Only one class of stock can be issued--no preferred stock. Banks, some insurance companies, and certain affiliated groups of corporations are barred from the S class.

So a small business needs to choose between LLC and S Corporation. Before deciding which sort of corporation to form, it is best to consult an attorney who specializes in corporate law.

Now that you have the basics, the next step is to meet with your attorney and accountant and sort through the tax and organizational ramifications and figure out what's right for your company.
About the Author
Melissa Mashtonio writes for Manta.com, the authority for finding 45 million free company profiles covering large to small firms worldwide--and their related industries and products. Empowered with CRM tools, users compete smarter, accelerate sales prospecting and partnering, and identify revenue opportunities faster. Use Manta.com to help you keep track of potential partners and competitors.
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