7 Reasons to Choose LLC over C Corp for Your Startup
Are you thinking of starting a new business? If so, you might be wondering which legal structure is best for your startup. Should you form a limited liability company (LLC) or a corporation (C corp)?
There are many factors to consider when choosing between an LLC and a C corp, such as taxation, liability protection, ownership flexibility, management control, and funding options. In this article, we will explain the main differences between these two entities and why an LLC might be a better choice for your startup.
What is an LLC?
An LLC is a hybrid entity that combines the features of a partnership and a corporation. It offers the following benefits:
– Limited liability: The owners of an LLC, called members, are not personally liable for the debts and obligations of the business. This means that if the business is sued or goes bankrupt, the members’ personal assets are protected.
– Pass-through taxation: The income and losses of an LLC are passed through to the members and reported on their personal tax returns. This avoids the double taxation that occurs when a corporation pays corporate tax and then distributes dividends to its shareholders, who pay personal tax on them.
– Flexibility: An LLC can have any number of members, who can be individuals or entities, domestic or foreign. An LLC can also choose how it is taxed by the IRS: as a sole proprietorship, a partnership, a C corp, or an S corp. An LLC can also adopt any management structure that suits its needs, without having to follow the formalities of a corporation.
What is a C Corp?
A C corp is a separate legal entity that is owned by shareholders and managed by a board of directors and officers. It offers the following benefits:
– Limited liability: The shareholders of a C corp are not personally liable for the debts and obligations of the business. This means that if the business is sued or goes bankrupt, the shareholders’ personal assets are protected.
– Access to capital: A C corp can raise funds by issuing shares of stock to investors, who become owners of the business. A C corp can also attract venture capital and angel investors, who typically prefer to invest in corporations rather than LLCs.
– Perpetual existence: A C corp has a perpetual existence, meaning that it can continue to operate even if some of its shareholders die or sell their shares. An LLC, on the other hand, may dissolve if a member dies or withdraws from the business.
Why Choose an LLC over a C Corp for Your Startup?
While both an LLC and a C corp offer limited liability protection and access to capital, there are some reasons why an LLC might be more advantageous for your startup. Here are seven of them:
1. Avoid double taxation: As mentioned above, an LLC is taxed as a pass-through entity, meaning that its income and losses are reported on the members’ personal tax returns. A C corp, on the other hand, is taxed as a separate entity, meaning that it pays corporate tax on its income and then distributes dividends to its shareholders, who pay personal tax on them. This results in double taxation, which reduces the net income of the business and its shareholders.
2. Save on taxes: Depending on your income level and tax bracket, you might pay less taxes as an LLC member than as a C corp shareholder. For example, in 2020, the corporate tax rate was 21%, while the top individual tax rate was 37%. If you earned $100,000 as an LLC member, you would pay $37,000 in taxes (assuming you are in the top tax bracket). If you earned $100,000 as a C corp shareholder, you would pay $21,000 in corporate tax and then $16,380 in personal tax on your dividends (assuming a 15% dividend tax rate), for a total of $37,380 in taxes. That’s $380 more than what you would pay as an LLC member.
3. Deduct losses: As an LLC member, you can deduct your share of the business losses from your personal income. This can lower your taxable income and reduce your tax liability. As a C corp shareholder, you cannot deduct your share of the business losses from your personal income. You can only carry forward or backward the losses to offset future or past corporate income.
4. Enjoy more flexibility: As an LLC member, you have more flexibility in how you run your business. You can decide how many members you want to have, who they are, how much they contribute to the business, how they share profits and losses, how they manage the business, and how they exit the business. You can also choose how you want to be taxed by the IRS: as a sole proprietorship, a partnership, a C corp,
or an S corp. As a C corp shareholder, you have less flexibility in how you run your business. You have to follow the rules and regulations of the state where you incorporate, such as filing annual reports, holding meetings, keeping records, and paying fees. You also have to abide by the bylaws of the corporation, which define the rights and responsibilities of the shareholders, directors, and officers. You also have to pay corporate tax on your income and personal tax on your dividends.
5. Retain more control: As an LLC member, you have more control over your business. You can make decisions without having to consult with other members, unless you agree otherwise in your operating agreement. You can also change the terms of your operating agreement at any time, as long as you have the consent of all the members. As a C corp shareholder, you have less control over your business. You have to follow the decisions of the board of directors and the officers, who are elected by the shareholders. You also have to comply with the bylaws of the corporation, which may limit your ability to sell or transfer your shares, vote on important matters, or receive dividends.
6. Avoid dilution: As an LLC member, you can avoid dilution of your ownership stake in the business. Dilution occurs when a business issues more shares of stock to raise funds or reward employees, which reduces the percentage of ownership and voting power of the existing shareholders. As an LLC member, you can decide whether to issue more membership interests to raise funds or reward employees, and how to allocate them among the members. You can also negotiate the terms and conditions of any new membership interests, such as their price, voting rights, profit-sharing rights, and liquidation preferences. As a C corp shareholder, you can face dilution of your ownership stake in the business. Dilution occurs when the corporation issues more shares of stock to raise funds or reward employees, which reduces the percentage of ownership and voting power of the existing shareholders. As a C corp shareholder, you have little say in whether the corporation issues more shares of stock or how they are allocated among the shareholders. You also have to accept the terms and conditions of any new shares of stock, such as their price, voting rights, profit-sharing rights, and liquidation preferences.
7. Protect your privacy: As an LLC member, you can protect your privacy and keep your personal information confidential. Depending on the state where you form your LLC, you may not have to disclose your name, address, or other details on public records. You may also use a registered agent or a nominee service to act as your representative and receive legal notices on your behalf. As a C corp shareholder, you may have to disclose your personal information on public records. Depending on the state where you incorporate your C corp, you may have to list your name, address, and other details on the articles of incorporation, annual reports, and other filings. You may also have to reveal your identity and ownership stake in the corporation if you are involved in a lawsuit or an audit.
As you can see, there are many reasons why an LLC might be a better choice than a C corp for your startup. An LLC offers more tax benefits, flexibility, control, protection, and privacy than a C corp. However, an LLC also has some drawbacks, such as limited access to funding sources,
complexity in taxation and accounting, and uncertainty in legal status across states and countries.
Ultimately, the best legal structure for your startup depends on your specific goals, needs,
and preferences. You should consult with a lawyer and an accountant before making any final decisions.
LLC vs C Corp: A Statistical Comparison for Startups
Many entrepreneurs face the dilemma of choosing between a limited liability company (LLC) and a C corporation (C corp) for their startup. Both business structures have their pros and cons, but which one is more suitable for your venture? In this blog post, we will compare some key statistics on LLCs and C corps to help you make an informed decision.
Taxation Rates
One of the main differences between LLCs and C corps is how they are taxed. LLCs are pass-through entities, meaning that their profits and losses are reported on the owners’ personal income tax returns. C corps, on the other hand, are subject to double taxation, meaning that they pay corporate income tax on their profits and then the shareholders pay personal income tax on any dividends or capital gains.
According to the IRS, the average effective tax rate for LLCs in 2020 was 19.8%, while the average effective tax rate for C corps was 21%. However, this does not take into account the additional taxes that C corp shareholders may face. For example, the top marginal tax rate for qualified dividends in 2020 was 23.8%, while the top marginal tax rate for long-term capital gains was 20%. Therefore, depending on the amount and type of income that C corp shareholders receive, their total tax burden may be higher than that of LLC owners.
Investment Opportunities
Another important factor to consider when choosing between LLCs and C corps is the availability of investment opportunities. Generally speaking, C corps are more attractive to venture capitalists (VCs) and institutional investors than LLCs. This is because VCs and institutional investors prefer to invest in standardized and familiar structures that offer limited liability protection, easy transferability of shares, and preferential rights.
According to PitchBook, a data provider for the private capital markets, there were 11,430 VC deals in the US in 2020, totaling $156.2 billion in value. Of these deals, 97% were made with C corps, while only 3% were made with LLCs. This shows that C corps have a clear advantage over LLCs when it comes to raising capital from external sources.
Startup Costs and Maintenance
A final aspect to compare between LLCs and C corps is the startup costs and maintenance requirements. LLCs are generally easier and cheaper to set up and maintain than C corps. This is because LLCs have fewer legal formalities and regulations to comply with than C corps.
According to LegalZoom, an online legal service provider, the average cost of forming an LLC in the US ranges from $40 to $500, depending on the state of formation and the level of service chosen. The average cost of forming a C corp in the US ranges from $89 to $800, depending on the same factors. Additionally, LLCs typically have lower annual fees and filing requirements than C corps. For example, many states charge a minimum annual franchise tax of $800 for C corps, while some states do not charge any annual fees for LLCs.
As you can see, there are significant differences between LLCs and C corps in terms of taxation rates, investment opportunities, and startup costs and maintenance. Depending on your goals, preferences, and circumstances, you may find one structure more suitable than the other for your startup. Therefore, it is advisable to consult with a professional accountant or attorney before making your final decision.
References:
https://www.irs.gov/newsroom/some-s-corporations-may-want-to-convert-to-c-corporations
http://corp.delaware.gov/Aug09feesch.pdf
https://www.irs.gov/pub/irs-pdf/i1120.pdf
https://www.forbes.com/advisor/business/llc-vs-c-corp/
https://www.forbes.com/sites/allbusiness/2021/07/06/llc-vs- http://www.calstartuplawfirm.com/business-lawyer-blog/incorporation-vs-LLC.php
https://capbase.com/llc-vs-c-corporation-issuing-equity-to-employees/
https://www.irs.gov/statistics/soi-tax-stats-business-tax-statistics
https://pitchbook.com/news/reports/q4-2020-us-vc-valuations-report
https://www.sba.gov/business-guide/launch-your-business/choose-business-structure
https://www.nolo.com/legal-encyclopedia/llc-basics-30163.html
