Ok, I’ll make this quick and dirty.  LLC, C-corp or S-corp for your small business you ask?  I think most small businesses still go with the LLC for the flexibility and to take advantage of the flow through taxation.   Below is a rundown of the main differences.  But be mindful that the recent tax changes pose a whole different set of issues that MUST be discussed with your trusted accountant.  For an explanation of the new tax considerations, see here.

Formation

LLC

C-corp

S-corp

For $200 file articles of organization with Department of State

For about $1300, arrange for publication of LLC and file certificate of publication

For $125 file certificate of incorporation with Department of StateSame as c-corp.  But State and Federal s-corporation tax election required
Draft and execute an operating agreementDraft and execute bylaws, shareholder agreement and issue sharesSame as c-corp

Ownership and Transfer

 One or more membersOne or more shareholdersOne to 100 shareholders, only US residents or citizens
Full membership is not transferrable unless allowed under operating agreement; otherwise only economic transfer permittedShares are transferable unless restricted by shareholder agreement.

There may be registration requirements under securities laws

Same as c-corp
Multiple classes of membership with different rights allowedMultiple classes of shares allowed (common shares/preferred shares)Only one class of shares allowed

Liability

Members are not liable for obligations of LLC

The ten members with the most ownership are liable for unpaid wages of the LLC’s employees

Shareholders are not liable for obligations of the corporation

The ten shareholders with the most ownership are liable for unpaid wages of the LLC’s employees

Same as c-corp

Management

Managed by members unless the formation docs specify management by managersManaged by a board of directors and officerssame as c-corp

Taxes

Flow through entity; the members are directly taxed on the profits and losses allocated to themThe corporation is taxed as a separate entity and the shareholders are taxed again when they receive dividends (aka double taxation)Flow through entity

Formalities

Few if any, biannual statement, no annual meetings requiredregular shareholder meetings; owner payroll taxessame as c-corp

In closing, forming any of the entities above is pretty easy and there is no reason why the small business owner couldn’t do it on his/her own.  However, if you are in business with another person(s), don’t try to save money by drafting your own shareholder agreement or operating agreement, or maybe worse, not have one at all.

 

The LLC Operating Agreement

The LLC Operating Agreement is a key document for a business organized as a New York Limited Liability Company, especially if that business has more than one owner (the owners are “Members” in LLC terminology). If an LLC business was like a marriage, the LLC Operating Agreement would be like a prenup, parenting agreement and divorce settlement all in one.

Why you should have an LLC Operating Agreement

While the New York limited liability company law provides for some default rules applicable to LLC businesses that do not have an LLC operating agreement in place, the members of the business are well advised to craft their own rules by way of an LLC Operating Agreement (which is actually required by law in New York, Section 417).  The members of the LLC business are given great flexibility to regulate their rights and responsibilities with respect to the LLC, management of the LLC and pretty much everything else that concerns the LLC and the LLC Members. Only very few rules in the NY LLC law cannot be modified by an Operating Agreement.

The LLC Operating Agreement sets forth the rules that apply to the members of the LLC and the management of the LLC.   It should give answers to the following questions:

  • Who owns what of the LLC business?
  • Who contributes what to the business of the LLC?
  • Who gets how much of the business profits of the LLC?
  • When are LLC business profits to be distributed?
  • How are the members to manage the day to day affairs of the LLC business?
  • Are there specially appointed Managers to manage the LLC business, rather than management by the LLC members?
  • Who can vote on non day to day, monumental business decisions affecting the LLC business?
  • Who has which responsibilities regarding the business of the LLC?
  • What other obligations do the LLC members have to the business and to the other LLC members?
  • What happens if an LLC member wants to leave the LLC Business or sell his or her membership interest?
  • How can new LLC members join the club?
  • Should the LLC members be allowed to force someone to leave the LLC Business?
  • How can the LLC be dissolved?
  • What happens upon dissolution of the LLC and how are the assets to be distributed?

All these and more are questions to be addressed in an LLC Operating Agreement.  Ideally, you should hire a business attorney who specializes in startup matters and LLC operating agreements to draft your LLC operating agreement.  However, an educated client is the best client and knowledge of the key issues in an LLC Operating Agreement is key for efficient cooperation with a business attorney.

Management Provisions in an LLC Operating Agreement

Management provisions in the LLC Operating Agreement deal with the management of the LLC business, which basically means decision making for the LLC business. There are ordinary business decisions (think: buying copy paper at Staples, landing another customer, paying employees….) and extraordinary business decisions, such as obtaining financing for the LLC business, selling major equipment, taking in a new owner, i.e. a new LLC member, merging with another business, and so forth.

Default NY LLC law Rules: Management by Members

As per NY LLC Law, by default, the LLC is managed by its Members (Section 401) and each Member has authority to make ordinary business decision for the LLC and bind the LLC (i.e. enter into contracts in the name of the LLC) in connection with such ordinary type decisions. Extraordinary business decisions, however, require a formal authorization by the LLC Members (Section 412). The formal authorization can be by majority vote of the LLC Members in a meeting or by written consent.

Management by Managers

If you set forth in the LLC’s Articles of Organization (the document that was filed with the Secretary of State in Albany in connection with the formation of the LLC), that the LLC shall be managed by Managers, New York law has a second set of default rules applicable to the management of the LLC. In that case, the Manager(s) have the authority to make ordinary business decision for the LLC and bind the LLC (i.e. enter into contracts in the name of the LLC) in connection with such ordinary type decisions. Extraordinary business d ecisions require a formal authorization by the Manager(s). If there is more than one Manager, a majority vote or written consent constitutes such formal authorization.  In that case, the LLC Members do not have any authorization to manage the day to day business affairs of the Company.

However, some extraordinary business decisions still require the consent by the LLC Members. The law has a list of such extraordinary events (admit a person as a Member, dissolve the LLC, and so forth, look in Section 402 (c) and (d)).

Drafting your own Rules

When you read the NY LLC law, it almost always states “except as provided in the Operating Agreement…). This is your ticket to draft your own rules with respect to the management of your LLC.

Here are common matters written into LLC Operating Agreements with respect to the management of the LLC business:

No required Annual Meetings

By default, under NY LLC Law, meetings of LLC Members must be held annually. In order to keep administration of the LLC lean and mean, many LLC founders decide to NOT require annual meetings of the LLC members and state as much in the LLC Operating Agreement.

Board of Managers

LLCs with many Members or Members who are not involved in the day-to-day management of the LLC can provide for a Board of Managers, similar to the structure in corporations.

LLCs can establish committees with responsibilities designated by the Board of Managers, Officers with special titles, such as President, Vice President and others.

In that context, you can provide how many people should be on the Board of Managers and who are the initial persons to serve on the Board of Managers.

You can provide for special veto rights by certain people, how Managers are to be elected, how they should be replaced or fired, if necessary.

In LLCs with only a few involved LLC Members and no Managers, you would also set forth who of the Members has authority to decide about day-to-day LLC business decisions and bind the LLC in contracts and agreements.  You could also provide for certain areas of responsibilities assigned to each managing LLC Member, like Joe is responsible for the LLC’s marketing and Jack for sales and distribution of the LLC.

Retained Voting Rights of LLC Members

You can set forth a list of LLC business decisions that are so important to your LLC that they always require a vote by the LLC Members, despite management of the LLC by Managers or a few select Members.  In that respect, you would also provide the level of consent that is required (majority, super majority, or unanimous consent) for such decisions.

Voting Requirements

How many votes does each LLC Member or Manager have when it comes time to take a vote? The default rule for member managed LLCs under NY LLC Law: The Members vote in proportion to each Member’s share of profits.  Example: Joe gave $10,000 as startup capital to the LLC and Jack gave $90,000.  Joe gets 10% of all the profits of the LLC and Jack gets 90%.  Joe gets 10% of the votes and Jack gets 90%, i.e. in matters requiring majority consent, Jack would always have the last word.

You can change voting requirements for the LLC in numerous ways.  There can be special groups of LLC Members who have voting rights different from other LLC Members and independent of their economic interest in the Company.  There can even be LLC Members who have no voting rights at all.

Ownership, Contributions and Distributions of Profit in an LLC Operating Agreement

The LLC Operating Agreement will have provisions stating what the LLC members have contributed upon formation of the LLC.  Contributions can be in the form of money, property or services.  While not a contribution per se, the Operating Agreement can also provide that the LLC members may have the right to grant loans to the LLC.

Read more about Capital Contributions in Funding the Company.

The LLC Operating Agreement further has to address the economic ownership rights of its LLC members.  (Economic ownership rights are usually distinguished from the voting and management rights of the LLC members.)

There is equity ownership in the LLC which represents the LLC member’s right to share in what is left over of the company upon its dissolution or if it were to be sold as a whole to another person or entity.

Then there is the right to receive distributions of the LLC’s profits as it goes along and makes money.  LLC members have a right to receive their share of profits, i.e. money left over from the revenues of the LLC’s business after expenses.

In the most common scenario, LLC members share equity ownership and profit distribution rights equally.  For example, if A and B each own 50% of the LLC and nothing else is stated in the Operating Agreement, A and B would each have a right to 50% of the equity ownership and the profit distribution rights.

But it is the beauty of the LLC, that the Operating Agreement can provide otherwise.  For example, if A contributed $50,000 to the starting capital of the LLC and B nothing, they could agree that they both own 50% of the equity ownership of the LLC, but that A will initially receive ALL the profit distributions of the LLC until he has received back his initial capital investment.

LLC Member Obligations in an LLC Operating Agreement

These days, LLCs are often founded around a brilliant idea which requires a lot of development, creation and “sweat equity.”  As a consequence, it is a good idea to include certain obligations of the LLC members in the LLC Operating Agreement.

Confidentiality

Each member should be obliged to keep all LLC business confidential.

Non- Competition

Members should be restricted from competing with the business of the LLC or soliciting employees, vendors or customers away from the LLC to another business venture.  Note though, that restrictive covenants like non compete provisions and non solicitation provisions have to be reasonable to be enforceable in court.

Intellectual Property

If the LLC members are creating intellectual property on behalf of the LLC (software, designs, innovative methods of doing anything), the LLC Operating Agreement must set forth that all such intellectual property has to be immediately assigned to the LLC and is not and will not be the property of the individual LLC members.

Participation in the LLC Business

The LLC Operating Agreement could  set forth that certain members have distinct responsibilities with respect to the operation of the LLC.  For example, it could provide that A is responsible for research and development and B for sales and marketing.  If the agreement was silent, you could potentially have the situation that A works 24 hours a day to make things happen and B sits around and does nothing.  Without obligations in the LLC Operating Agreement, A could do nothing about B’s inactivity.

Buy Sell Provisions in an LLC Operating Agreement

While many LLC Operating Agreements are silent on this point, it is a good idea to include so called Buy Sell provisions in the LLC Operating Agreement.

Buy Sell provisions set forth what is going to happen when an LLC Member wants to leave the LLC, dies, is unable to continue his or here duties, declares bankruptcy,  wants to sell his or her interest to an outsider, or when the LLC members are hopelessly deadlocked in the management of the LLC.  All of these scenarios could seriously harm the LLC or the remaining members.

The most common buy sell provision is probably the so called right of first refusal, which would provide that an owner can sell his LLC membership interest to an outsider if he or she has first offered it to the LLC or the remaining LLC members and such members declined.

Then there could be provisions forcing a buy out of an LLC member if such member has committed a serious breach of his obligations against the LLC.  Or, in case of a professional LLC, if any member has lost his license to practice the profession of the LLC.In each buy-out situation it is important to have terms that provide the exact mechanism of a sale and exit of an LLC member as well as the method of determining a price for the LLC membership interest.
It is also common to limit the price being paid for an LLC membership interest under certain circumstances.  For example, if a member decides to leave before the expiration of a certain period after formation of the company, he may not be able to get much if anything for his interest, since he or she hasn’t put in enough effort to have earned it.

Doing Business As

D.B.A. or “Doing Business As” is not only a cool bar in the East Village, it also refers to individuals (sole proprietorships), partnerships, corporations and other entities that do  business under a name different from their real name.  For example, Joe Smith operates a computer service business under the name “Computer Geeks to the Rescue,” (fictional example) and Town Sports International, LLC operates a popular gym under the name “New York Sports Club” (real life example.)

If you are starting a business, but don’t want to form a legal entity yet (corporation or LLC), a business certificate gives you the ability to call your business something other than your personal name.

When you do business under a name different from your real name, you have to file a business certificate either with the county clerk of your county or with the Secretary of State in Albany.     Here are the rules:

Read more

If you have ever started a business, you know what it is like to wake up in the middle of the night and be worried sick.  Being in business exposes you to a lot of risk.  The key is to plan for risk and minimize it where possible, so that you can find the sleep you need to succeed.

Here are the ten most common strategies to minimize risk when operating a business:

1.  Forming a Business Entity

The right business entity can shield your personal assets from creditors of the business.

The right business entity can also shield business assets from personal creditors of the owners of the business.

2. Removing Assets from the Business Entity

Since business assets are exposed to attack by creditors of the business, it is wise to remove as many assets as possible from the business entity, or not even put business assets into the entity in the first place.  A combination of business entities, a regular withdrawal of business assets, and a smart funding of business entities with owner loans and liens can minimize the risk that important business assets are open to attack by creditors.

3. Hiring Independent Contractors instead of Employees

Employees can get business owners into trouble.  Some of the liability issues are avoided by outsourcing business tasks to independent contractors.

4. Entering into Founder Agreements with your fellow Business Partners

Properly drafted founder agreements, such as shareholder agreements, operating agreements or partnership agreements can prevent sticky situations with co-owners and provide clear rules with respect to forced buyouts of owners, exist strategies for owners, vesting of owner equity and so forth.

5. Keeping your Books and Records in Order/Complying with Formalities

Co-mingling personal assets with business assets, neglecting to hold and document required corporate meetings, neglecting to properly document transfers of assets in and out of the business can be the death of any properly structured limited liability shield and asset protection strategy.  Creditors who can show neglect in such respects may be able to pierce the corporate veil of the limited liability entity and reach your personal and business assets.

6. Solid Business Contracts

Business Contracts that properly spell out the deal you want, provide for dispute resolution mechanisms and identify the proper parties can prevent many misunderstandings and hassle with your customers and suppliers.

7. Using the Law to your Advantage

Getting proper protection for your intellectual property to the full extent of the law can prevent theft and infringement of such property by third parties.

8.  Complying with the Law when raising Money

Being aware of and following state and federal securities laws and regulations when raising money can keep you out of serious (even criminal) trouble.

9. Assembling the Right Team to Look out for your Business

To paraphrase Seth Godin in How to Succeed in Business to Business, you need people who will be consistently on time, on budget and most importantly, people who don’t cause you to lose sleep.  That your lawyers, accountants and other advisers are brilliant at what they do, should be a given.

10.  Getting Insurance

Despite the best business entity structure, adviser teams and other strategies, there remain risks that can be insured.  Even limited liability business entities have many
exceptions to the limited liability shield.  A good business insurance broker can tell you about the risks that can be insured.

**This post is for informational purposes only and does not constitute legal advice**

The first question for every small business owner who decided to form an entity?  LLC or S corp?  Which one is better for me?

Let’s face it, most people would chose the entity that leaves more money in their pocket.  So let’s compare the tax costs and startup costs of these two entities.  This assumes that the business owner is the sole owner of the business.

As a brief recap, an s corporation is a corporation that elected to be taxed as an s corporation.  When you form a corporation, you are a shareholder and the corporation can distribute income to you by way of a salary or profit distributions, aka dividends.  Most importantly, a corporation offers protection from personal liability for debts of the corporation.

A limited liability company offers the same protection from personal liability.  As a member of an LLC, all the profit goes to you directly, you are not paying yourself a salary.

Cost of forming the Entity

LLCScorp
 Articles of Organization: 200 Incorporation: 125
 Expedited Handling 24 hrs: 25 Expedited Handling 24 hrs: 25
 Certified Copy: 10 Certified Copy: 10
 Publication in Albany:  350 Tax on 200 shares: 10
Total:       585Total:         170

 

So it is cheaper to form the s corporation, which is mainly due to the archaic LLC publication requirement, which serves no real purpose other than to put money into the hands of newspapers (I guess they need it) .  And, unfortunately, usually the cost of publication is higher than in Albany County…in New York County it is more like $1200.

Tax Consequences of LLC v. Scorp

What about the tax situation?  Does one entity cause less tax liability than the other?   This is a highly fact specific question and depends on all your sources of income.  But my friend and esteemed CPA Jonathan Medows did an experiment and compared the 2013 tax situation of two small business owners making $75,000 in revenue and each having $15,000 of business expenses.  He came to the conclusion that it didn’t matter much whether they operated their business as an LLC or an S corp.  Each had about the same personal and business tax expenses (LLC: $20,476,  S corp: $20,755).  Please see here for his article on the subject.

So should you run to form the s corporation?  Personally, I would not go with the s corp.  The upkeep of the s corp requires more paperwork and ongoing tax filing responsibilities, because you have to treat yourself as a formal employee of the corporation.

Klick here to Let us form your LLC!

Many small business owners end up deciding between a New York S corporation and a New York limited liability company (LLC) when choosing a formal legal structure for their New York business. Both entities offer limited liability and a startup friendly tax treatment. But which entity is right for your small business? The following are some frequently asked questions with respect to the two business entities.

What is an S Corporation?

An S corporation is a (regular) business corporation that elected a special tax treatment with the federal tax authorities and/or the New York State tax authorities.

Otherwise, an S corporation’s characteristics are just like a regular business corporation, which means that it is a legal entity that can be formed by one or more persons. Once a corporation is formed, the S corporation (not its owners in their personal capacity) will enter into all contracts, issue all invoices and undertake all business activities.

Note: Professionals can only form a professional corporation.

What is a Limited Liability Company?

A limited liability company (LLC) is a business entity that can be formed by one or more persons or other business entities.

Once an LLC is formed, the LLC (not its owners in their personal capacity) will enter into all contracts, issue all invoices and undertake all business activities.

Click here for NY LLC Formation

Note: Professionals can only form a professional limited liability company.

How do I form an S Corporation?

You start by forming a regular business corporation.

The formation of a corporation requires the filing of a “certificate of incorporation” with New York’s Department of States.

Once the corporation is in existence, you will have to elect S corporation status with the federal and state tax authorities.

How do I form an LLC?

The formation of an LLC requires the filing of “articles of organization” with New York’s Department of State.

Who can form an S Corporation?

Only individual U.S. citizens or U.S. residents can form an S corporation.

Who can form an LLC?

Any person or business entity.

How many Shareholders can an S Corporation Have?

An S corporation can only have a maximum of 100 shareholders all of which have to be individuals (some exceptions apply).

How many Members can an LLC have?

An LLC can have an unlimited number of members.

Who are the Owners of an S Corporation?

The owners of an S corporation are called shareholders. The corporation issues share certificates to the shareholders in exchange for something of value, like cash, services or property.

Who are the Owners of an LLC?

The owners of an LLC are called members. You become a member by contributing something of value (cash, services, property) to the LLC and receiving a membership interest in return.

How much does it cost to form an S Corporation?

It costs about $195 to form a corporation in New York, excluding legal fees.

How much does it cost to form an LLC?

It costs about $1300 to form a limited liability company in New York, excluding legal fees.

The main costs of formation stem from the fact that limited liability companies are required to publish their formation in two newspapers. Depending on your location, this publication requirement can be quite costly. The estimated cost of formation above is based on New York county’s expensive newspapers (about $1000), it may be cheaper in other counties.

How long does it take to form an S Corporation?

For $195, your corporation will be in existence within 24 hours. However, you normally have to wait a couple of days to receive the necessary documents in the mail to prove that your corporation has been formed. This may be necessary for opening a bank account.

How long does it take to form an LLC?

You can form an LLC within 24 hours. However, you normally have to wait a couple of days to receive the necessary documents in the mail to prove that your LLC has been formed. This may be necessary for opening a bank account.

Many banks will also require you to show an operating agreement (see discussion below) before they will open an account for your LLC.

The publication requirement has to be completed within 120 days of formation. Notwithstanding, you can start doing business with your LLC as soon as it is born. If you fail to fulfill the publication requirement, your business loses the authority to conduct business in New York with the expiration of the 120 day period.

Does an S Corporation offer limited liability to Shareholders?

As long as you keep up with all corporate formalities, a corporation offers almost complete limited liability. Shareholders only risk losing the initial investment in the corporation. Creditors normally cannot reach the shareholder’s personal assets.

Does an LLC offer limited liability to its Members?

Yes, the LLC is liable on all business debts, not the members personally. If the business goes under, creditors of the business cannot reach the personal assets of the members.

What formalities are required to maintain an S Corporation?

Among other formalities, S corporations require annual shareholder and director meetings. Important decisions by the S corporation must be documented in “minutes” or “written resolutions” of shareholders’ or directors’ meetings.

Formalities are important to preserve the “limited liability shield” of the S corporation.

What formalities are required to maintain an LLC?

LLCs require less ongoing paperwork than S corporations; however, unless the operating agreement (see below) of the LLC states otherwise, the LLC must also hold annual member meetings.

Formalities are important to preserve the “limited liability shield” of the LLC.

Can an S Corporation issue Shares with different economic rights?

No. All shares of the S corporation must have the same economic rights to profits, distributions and liquidation of assets.  In other words, a shareholder who owns 50% of the shares of the S corporation can only receive 50% of the distributions of the S corporation.

Can an LLC have Membership Interests with different economic rights?

A special feature of an LLC is that the members can agree to share profits and losses in proportions different from their membership interests. In other words, the members could agree that 100% of the profits of the LLC are to be distributed to one member for the first three years, despite the fact that that member owns only 50% of the LLC and normally should have received only 50% of the profits and losses.

But these so called “special allocations” have to follow quite complicated tax rules to make them permissible. This adds a layer of complexity and extra cost to the management and accounting for the LLC.

Who manages an S Corporation?

A “board of directors” manages the affairs of the corporation through officers. Officers of a corporation are often named president, vice president, treasurer, secretary, chief operating officer and so forth. Sometimes the law or the “bylaws” of a corporation provide that the shareholders have to approve certain actions by the corporation. Bylaws are rules that govern the corporation. When a corporation is formed, the initial directors approve the original bylaws of the corporation.

All three groups in the corporation, directors, shareholders, officers, can be the same person. In other words, if you form a corporation and are the only shareholder, you will also be the only director and may be several officers in one.

Who manages an LLC?

An LLC can be managed by its members or by appointed managers. Unless the articles of organization of the LLC provides for management by managers, the LLC is managed by its members.

What is a Shareholders Agreement and do I need one?

Shareholders can enter into a shareholders agreement to regulate certain matters that come with their share ownership. For example, unless you agree with your fellow shareholders in a shareholders agreement that the shares are not “freely transferable”, any shareholder would be able to sell his shares to a third person. Such person would then become a co-owner of the business.

Thus, unless you are the sole shareholder of your corporation, it is advisable to enter into a shareholders agreement.

What is an Operating Agreement and do I need one?

Members of an LLC (even a sole member of an LLC) must enter into a written operating agreement.

Similar to a shareholders agreement, an operating agreement regulates ownership of the LLC and the business affairs of the LLC. For example, you can put restrictions on the transferability of the membership interests.

Does the S Corporation pay Taxes?

Not on the federal level, but for exceptions in New York State and New York City, see note below.

A regular business corporation is a taxpayer separate from its shareholders. The corporation pays taxes on its profits. When the corporation distributes profits to the shareholders (called dividends), the shareholder have to pay tax again on such distribution. This is called “double taxation”. By electing S corporation status, S corporations avoid this double taxation.

Each individual S corporation shareholder will include her share of the S corporation’s income, loss, and deductions on her individual state and federal tax return.  For this reason, an S corporation is also known as a “pass-through entity.”

Note:

New York State does not exclude s corporations from all corporate level taxation.

New York City does not recognize S corporation status. Consequently, a New York S corporation having income form New York City sources will be taxed as a corporation for New York City tax purposes and has to pay New York City’s General Corporation Tax.

Does an LLC pay Taxes?

A one-member LLC is treated as a “disregarded entity.” The only member reports income, losses, and deductions of her LLC on her personal federal and state income tax return like a sole proprietor.

A multi- member LLC is normally treated as a partnership for tax purposes. Just like a partnership, the LLC does not pay taxes, but files an informational return

Members report their share of the LLC’s income, loss, and deductions on their individual state and federal tax return.  For this reason, an LLC is also known as a “pass-through entity.”

Can a Shareholder deduct Losses of the S Corporation?

Yes, a shareholder of an S corporation can deduct her share of the losses of the S corporation. However, there are limits. Compared to LLCs, S corporations allow for less loss deduction.

Can a Member deduct Losses of the LLC?

Yes, a member of an LLC can deduct her share of the losses of the LLC.

Do Shareholders have to pay Self-Employment Taxes on Money they receive from the S Corporation?

No. However, shareholders of an S corporation who work for the business have to pay themselves a reasonable salary. They are considered employees of the S corporation. Consequently, the S corporation has to withhold federal and state taxes from their salary, pay unemployment insurance and its share of social security and Medicare payments.

There still may be savings over the self-employment tax due from members of an LLC. S corporations can pay out all profits above a reasonable salary as dividends to their shareholders. There are no self-employment taxes or other employment taxes due on such payments.  In determining a “reasonable” salary, be aware of the audit risks involved.

Do Members have to pay Self-Employment Taxes on Money they receive from the LLC?

Members who are actively involved in the business of the LLC have to pay 15.3% self-employment taxes on the first $106,800 of their combined wages and net earnings, including the income allocated to them from the LLC.

Can a Shareholder be an employee of an S Corporation?

Yes, by default, anybody working actively in the S corporation is considered an employee; i.e. the corporation must do payroll for the employee: withhold federal and state taxes, pay its share of social security and Medicare, and pay unemployment insurance. The corporation can deduct the cost as expenses.

Can a Member be an Employee of an LLC?

No. A Member cannot be an employee of an LLC.  Even though a Member can actively work in the management of the LLC and receive so called “guaranteed payments” similar to a salary, technically he or she would not be considered an employee.

Can an S Corporation choose a different Tax Status?

An S corporation can choose to abandon s corporation status and become a regular corporation again. There are limits and restrictions on how often the switch can be done.

Can an LLC choose a different Tax Status?

An LLC can choose to be taxed as a corporation or a partnership.

Can I raise money for the S Corporation from outside investors?

The S corporation can issue shares to investors in exchange for capital that can be used to grow the business. Investors will become owners of the corporation, but can be excluded from management (if they agree).

Can I raise money for the LLC from outside investors?

The LLC can issue membership interests to investors in exchange for capital that can be used to grow the business. Investors will become owners of the LLC, but can be excluded from management (if they agree).

For their own valid reasons, certain venture capitalists will require a corporation for their investment.

Bottom Line for S Corporations:

Pros:

An S corporation is cheaper to form than an LLC.

More people are familiar with the structure of an S corporation.

It may be possible to save money on self-employment taxes.

Cons:

S corporations put serious limitations on the number and kind of permitted shareholders.

S corporations do not allow for special allocations and are less flexible than LLCs.

S corporations put limits on loss deductions on the shareholder level.

S corporations require ongoing formalities to preserve their limited liability shield.

S corporation status is not recognized by New York City, thus the s corporation is subject to corporate level tax.

Bottom Line for LLCs:

Pros:

The LLC offers a very flexible structure. Members can agree to special allocations of profits and losses.

The LLC offers more possibilities for loss deductions.

LLCs have no limitations on the number and kind of owners.

LLCs require less ongoing formalities.

Cons:

LLCs are expensive to form.

LLCs are expensive to maintain when special allocations are chosen by the members.

LLCs can be more complex with respect to accounting procedures.

LLCs can be more expensive for the members with respect to self-employment taxes.

 

**This post is for informational purposes only and does not constitute legal advice**

Let us help you with  your New York LLC Formation!  Call us to discuss your legal concerns and any other questions you may have about the process of forming a New York Limited Liability Company.  We are not a paralegal service where you don’t get to speak to a real New York attorney.  We are a small business law firm where every client counts.

We will form your New York LLC and get you off to a right start by answering any questions you may possibly have.  A New York LLC is the most flexible form of entity to start a New York Business today.  You will have a protective shield of limited liability but fewer formalities than with a c corporation or an s corporation.  Last but not least, you will have an opportunity to get to know our lawyers and will be able to reach out to us at any time after your New York LLC formation.  So without further ado, here is our offer:

Our New York LLC Package:  $450 plus $260 in State Filing Fees

What does that include?

  • Consultation with an Attorney (ask any questions you may have!)
  • Name Availability Check
Attorney New York LLC Formation

Click here for LLC Formation

  • Preparation and filing of all LLC papers, including an operating agreement for a single member (inquire about package price for 2 member LLC)
  • Formation of LLC within 24 hours (if fees paid before 11:00 a.m. Monday through Thursday, LLC can be formed by next day)
  • Certified copies of LLC documents
  • Assistance with tax i.d.
  • LLC publication (extra expense, but talk to us about possibilities to lower these costs)

CONTACT US NOW:

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What is the Operating Agreement

The LLC Operating Agreement is a key document for a business organized as a New York Limited Liability Company, especially if that business has more than one owner (the owners are “Members” in LLC terminology). If an LLC business was like a marriage, the LLC Operating Agreement would be like a prenup, parenting agreement and divorce settlement all in one.

Why you should have an LLC Operating Agreement

While the New York limited liability company law provides for some default rules applicable to LLC businesses that do not have an LLC operating agreement in place, the members of the business are well advised to craft their own rules by way of an LLC Operating Agreement (which is actually required by law in New York, Section 417).  The members of the LLC business are given great flexibility to regulate their rights and responsibilities with respect to the LLC, management of the LLC and pretty much everything else that concerns the LLC and the LLC Members. Only very few rules in the NY LLC law cannot be modified by an Operating Agreement.

What goes into an LLC Operating Agreement

The LLC Operating Agreement sets forth the rules that apply to the members of the LLC and the management of the LLC.   It should give answers to the following questions:

Who owns what of the LLC business?  Who contributes what to the business of the LLC?  Who gets how much of the business profits of the LLC?  When are LLC business profits to be distributed?

See:  Ownership, Contributions and Distributions of Profit in an LLC Operating Agreement

How are the members to manage the day to day affairs of the LLC business?  Are there specially appointed Managers to manage the LLC business, rather than management by the LLC members?  Who can vote on non day to day, monumental business decisions affecting the LLC business?

See: Management Provisions in an LLC Operating Agreement

Who has which responsibilities regarding the business of the LLC?  What other obligations do the LLC members have to the business and to the other LLC members?

See: LLC Member Obligations in an LLC Operating Agreement

What happens if an LLC member wants to leave the LLC Business or sell his or her membership interest?  How can new LLC members join the club?  Should the LLC members be allowed to force someone to leave the LLC Business?

See: Buy Sell Provisions in an LLC Operating Agreement

How can the LLC be dissolved?  What happens upon dissolution of the LLC and how are the assets to be distributed?

All these and more are questions to be addressed in an LLC Operating Agreement.  Ideally, you should hire a business attorney who specializes in startup matters and LLC operating agreements to draft your LLC operating agreement.  However, an educated client is the best client and knowledge of the key issues in an LLC Operating Agreement is key for efficient cooperation with a business attorney.

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**This post is for informational purposes only.  For actual legal advice contact a business lawyer, business attorney or business law firm**

When you are a one person business, i.e. you are to be the only owner of your business, the question invariably arises:  sole proprietorship or single member LLC?

You are a sole proprietorship, as soon as you begin doing business.  There is no filing, no certificate, not even an EIN is required (unless you have employees).  Startup costs couldn’t be any lower.

A Limited Liability Company is a separate entity and requires certain filings and, if your LLC’s county of formation is in New York City, Manhattan, it will cost you at least $1430 to form.  A limited liability offers LIMITED LIABILITY and you are not in danger of being liable for business debts with your personal assets.   But $1430 is a lot of money to come up with and some people might just be fine with a sole proprietorship after having fully understood its limitations and risks.

  • The tax situation for a sole proprietorship and LLC is essentially the same.
  • Yes, not forming an entity with limited liability subjects you to potentially unlimited liability.  However, if you are a professional service provider or consultant and what you are selling is basically your service, you would always be liable for your actions anyway.  In other words, if you screw up, people can still sue you personally, even if you have an LLC.
  • If you are a startup LLC, anybody with a brain will also ask for your personal signature and guaranty when you enter into any kind of bigger contractual obligation, like signing a lease.  So the limited liabilty won’t save you from being personally liable.
  • You can hire employees as a sole proprietorship.
  • Aside from the unlimited liability, you also have to realize that you cannot share ownership in a sole proprietorship or transfer ownership to somebody else.  Also, when you go away, the business ends.  With an LLC, your departure from this earth would, in most cases, result in a transfer of the ownership to your heirs.
  • You can always form an LLC later, when the business has grown, your cash flow has improved and/or you want to raise money by giving away some ownership of your business to another person.

Excluding any service fees paid to an attorney (see here for my very reasonable package), the approximate* costs are as follows:

New York County (aka Manhattan): $1560

Kings County: $960

Nassau County:  $960

Richmond County:  $1010

Westchester County: $710

Bronx County:  $1360

 

*approximate, because the total amount depends on the cost of publication which varies.  Above prices are based on the current offer of an advertising agency.