An LLC will provide limited liability to its members and managers unless those parties expressly agree otherwise in an operating agreement or other written agreement. This is different than a partnership or a sole proprietorship where the business owner(s) may be liable personally for the debts and judgments of the business.
The LLC can choose how it will be taxed.
If an LLC is a sole-member LLC (as opposed to one with multiple members) it can be disregarded for tax purposes and all income and loss will flow directly to the sole member. A multi-member LLC can choose to be taxed as a corporation or as a partnership, etc. The IRS allows you to "check the box" meaning you simply choose how you will be taxed you don't have to justify why you should be taxed that way.
An LLC is a hybrid.
Before the LLC entity was created in the mid 1990's, business owners had to choose (generally) between partnerships and sole proprietorship that had tax advantages but that left the owners susceptible to personal liability and corporations that had limited liability for shareholders but left owners liable for a double tax at the ownership and shareholder level. LLC's provide the best of both, limited liability and preferred tax structure of the owner.
Beware of "piercing of the corporate veil."
Even though LLC's provide limited liability, a party that has a judgment against an LLC or to whom the LLC owes a debt, etc. may attempt to "pierce the corporate veil." This is a legal doctrine that arose in the corporate context that has been applied to LLC's. Basically, a party can claim that the LLC is a sham and the members should be held personally liable.
How to avoid the "piercing the corporate veil."
In order to avoid having a party successfully pierce the corporate veil, business owners should make sure they have sufficient capital to operate, never commingle funds of the LLC with personal accounts or other entity accounts (i.e., maintain a separate LLC account and use it), respect corporate formalities (have an operating agreement, and abide by its terms), always sign documents on behalf of the LLC followed by your official designation (e.g., "as Manager"), have insurance, and don't engage in fraud. To find out other ways to avoid veil piercing, speak to an attorney.
Have an Operating Agreement!
Find an attorney to draft you an up-to-date LLC operating agreement specific to your business type, your preferred taxation method and management structure, etc. Your attorney can also advise you on what options you have for the business structure. This document will determine how profits and losses are split, how the business will be managed, the amount of control or ownership each member has, and if and how membership interests can be transferred, among many other things.
Always sign documents on behalf of your LLC followed by your official role (e.g. "As Manager")
Never sign any documents that will bind the LLC with your own personal name by itself. Always sign it with your formal role. For example, sign contracts with vendors like this: "John Doe, as Manager of XYZ, LLC" or "Jane Doe, as Member of XYZ, LLC." Otherwise a creditor may claim you are personally liable. NOTE: Some operating agreements forbid a member from entering into contracts or signing on behalf of the LLC, make sure you can sign to obligate the LLC under the operating agreement. If you are not authorized to sign on the LLC's behalf you may be personally liable.
Members owe one another fiduciary duties.
Kentucky Courts have recently found that LLC members, especially managing members or those in control or majority ownership, owe the other members fiduciary duties, including the duty of loyalty. They have also held that the doctrine of corporate opportunity or business opportunity may apply. This means that if you are the managing member of an LLC and you come across a business opportunity that is in the same area as the LLC's business, you have to disclose it to the other members and obtain their permission before you take the opportunity for yourself (as opposed to the LLC capitalizing on the opportunity).
If you have a multi-member LLC make sure you have a Buy/Sell provision and/or a Transfer of Ownership provision.
If you have more than one member of an LLC make sure your operating agreement has provisions that meet your desires for whether and how a party can transfer their interest. For instance, what if your partners (i.e., the other members) want out or die? Can they force you to buy their interest, can they force the LLC to dissolve, can they transfer their interest to a stranger or someone you don't trust, if they die will their interest pass to their spouse??? Scary thoughts if you spent years building a business. Make sure that you know exactly what will happen if a relationship with one of your business partners turns sour, they die, they retire, or they just want out of the business. An attorney can draft these provisions for you.
Generally, a creditor can only obtain an economic interest.
What if a bank or other creditor forecloses on a member's interest, does the bank or creditor become a member and thereby join in management decisions? Could they force the company to dissolve? Generally, NO, a creditor only has rights to the economic interest of an LLC member but not the controlling interest or the management rights. However make sure your operating agreement spells this out, and provides that no party, especially a creditor, can become a member with management rights, unless and until all other members unanimously consent to that party becoming an additional member.
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