Do you want to form a business, on your own or through an online service, but you don’t know if the limited liability company or the corporation is the better choice for your business entity?
The LLC and the corporation each have their advantages and disadvantages, and depending on your priorities, one or the other could be a much better fit for your company. But how do you figure out which one to choose?
We receive plenty of questions from our readers about whether they should form an LLC or a corporation, so in this article we’ll take a look at the details of each one. Along the way, we hope to help you decide which of these popular business structures you’d like to form.
What Is an LLC?
The limited liability company is a business owned and operated by one or more people, who are often referred to as “members” of the LLC. The limited liability company is a hybrid business structure that combines the casual flexibility of sole proprietorships and general partnerships with the limited liability protection of a corporation.
The main reason for the LLC’s popularity is because it provides personal asset protection, which means that creditors can only pursue your business assets in a lawsuit against your company, while your car, house, and personal bank accounts remain protected.
In addition, many entrepreneurs save a considerable amount of money on taxes thanks to the LLC’s “pass-through” taxation, which has the LLC owners claim business profits or losses on their personal returns, and there is no corporate-level taxation.
What Is a Corporation?
Corporations also provide personal asset protection in the same way that LLCs do, but the structure of a corporation is much more rigid than that of an LLC. The ownership of a corporation is comprised of its shareholders, who can each own varying shares of the company. A corporation needs to have directors and officers, whose role is to represent the shareholders when operating the business, creating policies, forming budgets, and more.
The tax structure of a corporation can either be C corp taxation or S corp taxation, and there are some significant differences between the two. C corporations are much more common, partially because it’s the default option, and also because there are far fewer rules and regulations governing the C corp than the S corp. The C corporation pays taxes at both the corporate level and at the individual level, which is often referred to as “double taxation.” With this model, your business income is taxed 21% at the corporate level, and then you also pay taxes on that same income again on your individual return.
The S corporation is taxed more like a general partnership or a limited liability company, in that it is considered to be a pass-through entity. The reason there aren’t more S corporations than C corporations is because the S corp has some pretty strict corporate ownership guidelines. The S corp cannot have more than 100 shareholders, regardless of how many shares those owners have. In addition, every one of an S corporation’s shareholders must be a citizen or resident of the United States, and other business entities are not allowed to have ownership stakes in an S corp.
Similarities of the LLC and the Corporation
First and foremost, both of these business entities provide their owners with personal asset protection, which is extremely important if your company is ever sued.
Also, they’re both formal business structures that have official formation processes and ongoing maintenance requirements, as opposed to the casual unincorporated nature of a general partnership.
The other major similarity between these business structures is the reservation of a unique business name. With either an LLC or a corporation, your business is granted the exclusive rights to use your chosen company name, which is not the case with some other business entities.
What Advantages Does the LLC Have Over the Corporation?
The formation process for a limited liability company is considerably simpler than that of a corporation. To form an LLC, you basically just need to fill out a document called the articles of organization, which includes basic information about your business, like your street address and the identity of your registered agent. By contrast, a corporation requires several more steps, like naming a board of directors, issuing stock, etc.
LLCs are a more flexible business structure than the corporation as well. Corporations have to adhere to strict rules and regulations regarding how the company is structured and operated, but the LLC has a considerable amount of freedom in this regard. LLC owners can choose how they want their company to be managed, and there are also many options for financial contributions and distributions that you don’t get with a corporation.
As we discussed earlier, the tax structures of these entities are quite different, but the LLC has an advantage here too. An LLC is typically taxed as a pass-through entity, which allows the business to avoid paying corporate taxes ― a 21% tax rate that most corporations have to pay. In addition, if an LLC wants to be taxed like a corporation, it can elect to use the C corp or S corp tax structure.
What Advantages Does the Corporation Have Over the LLC?
Simply put, it is significantly easier for corporations to attract investors than it is for limited liability companies.
The business structure of the LLC is quite unpopular with investors, primarily because venture capital funds cannot invest in pass-through entities. On the other hand, corporations are the most popular American business entity for investments, because of their ability to issue stock.
Another major advantages for corporations is the fact that this business type has been around for centuries, and therefore the legalities are well-established by now. As for LLCs, they’ve only been a legal business entity in all 50 states since the 1990s, and there’s not a ton of legal precedent for how courts are supposed to treat them.
Which Business Entity Should You Choose?
There’s no catch-all answer for a question like this, but we can certainly make some generalities.
While there are some exceptions to these rules, we generally prefer corporations for companies that have ambitious expansion plans. It is so much easier to attract investments as a corporation than as a limited liability company that this is a significant advantage for companies that want to someday become major corporations instead of small businesses.
That said, for a smaller business, there are plenty of advantages to forming an LLC. Especially for owners that aren’t already wealthy individuals, the partnership-style taxation model can save quite a bit of money. Additionally, the flexibility that’s available to LLCs is also a welcome attribute, as you can amend your operating style as the needs of your business evolve.
Should You Hire a Business Formation Service?
The DIY option is quite popular for both limited liability companies and corporations, but it can be quite a bit of effort.
Many entrepreneurs choose to hire a business attorney to form their LLC or corporation, which provides excellent reassurance that your formation is handled correctly, but this can be prohibitively expensive for some startups with tight budgetary restraints.
Our preferred option is to hire an online business service to form your business. There are plenty of reputable companies offering this service, and their rates are usually much more affordable than a business attorney. If you’re interested in using an online business formation service, here’s a look at our top three options:
- Zen Business ($39): Zen Business beats Northwest’s price tag, while also offering a free year of registered agent service. While Zen Business doesn’t have the same level of customization for their customer service as Northwest does, they do have thousands of fantastic customer reviews available online, which can be quite the advantage depending on your preferences.
- Northwest Registered Agent ($225): For the price point of $225, Northwest will form your LLC or corporation and include a full year of their premium registered agent service online. They also have next-level personalized customer support that makes Northwest one of our favorite companies in this industry.
- LegalZoom ($79): LegalZoom can’t match Northwest or Zen Business when it comes to value, and they don’t include any registered agent service with their business formation packages either. However, LegalZoom has a massive customer volume and impressive brand power, so if you want to use the most popular service available, LegalZoom is worth a look.
The limited liability company and the corporation are both extremely popular American business entities, and they both certainly have quite a bit to offer entrepreneurs.
It’s important to give careful consideration to the size of your business and your expansion plans, along with whether or not you need flexible structures for management and ownership. Obviously, tax considerations are in play as well.
Overall, the corporation is usually a better option for big businesses, or those with a large reach, while the LLC is the superior option for smaller businesses. However, there are certainly exceptions to those rules depending on what exactly your needs are, so there’s no one-size-fits-all answer for which one you might prefer.
Whichever one you ultimately choose for your business, we hope this article helped you figure out the differences between the LLC and the corporation. Services like LegalZoom + Zen Business are huge helps to register it with the state!