LLC vs. Corporation in California: Which One Should You Choose?
You want to start a new business, which is exciting. But what type of structure is best? In California, like in other states, you can form an LLC or set up a corporation. Here are some of the differences between the two.
Limited Liability Company (LLC)
Typically, an LLC is run by business owners but can also be structured where a manager is responsible for daily operations rather than the owners. Small businesses, startups, and single-owner businesses are good fits for this type of structure.
An LLC is an entity separate from the business owners (members). This structure provides owners with liability protection to shield their assets from business debts and obligations. The risk of loss is limited to what the owners invested in the business.
Other advantages of forming an LLC include:
- Perpetual existence (the business can remain in existence even if ownership changes)
- Flexible management structure
- Pass-through taxation that avoids double taxation (LLCs, as an entity, are not subject to taxation; tax obligations are passed down to members on their personal income tax returns)
An LLC can cost more than a sole proprietorship or general partnership. There’s an initial fee to form the LLC and ongoing expenses at the state level. In California, for example, there’s an $800 annual fee.
Transferring ownership of an LLC can also be more complex than transferring ownership of a corporation, where buying and selling shares of stock determine ownership.
How to File for an LLC Formation in California
Filing is handled through the Secretary of State. You’ll need to file an Operating Agreement – which outlines your company’s operations, management, and ownership structure.
In a corporation, you’ll have shareholders, a board of directors, and officers such as CEOs and CFOs.
There are two main types of corporations – a C corporation and an S corporation. A C corporation is responsible for paying taxes on its profits. Shareholders also pay taxes on dividends they receive. An S corporation has pass-through taxation, similar to an LLC. It comes with limitations, though, such as the number and type of allowed shareholders.
A corporation provides personal asset liability protection that protects owners from the company’s debts or legal obligations.
Other advantages include:
- Access to capital (you can raise funds by selling stock)
- Tax breaks available to corporations
- Business perpetuity
Corporations can get bogged down in legal and regulatory requirements that can become time-consuming and costly. Recordkeeping can become a bear.
Double taxation comes into play when you form a corporation. The corporation is taxed and shareholders are also taxed on dividends.
How to File to Become a Corporation
To form a corporation in California, you must file for Articles of Incorporation with the Secretary of State.
How to Choose the Right Structure
When deciding between an LLC and a Corporation, you’ll want to consult with a knowledgeable business attorney who can help you consider the following factors:
- Liability Protection: Both structures offer liability protection, but the formalities and management styles differ.
- Tax Implications: Evaluate how the business structure’s taxation aligns with your financial goals and the nature of your business.
- Business Goals: Assess your long-term objectives, growth plans, and exit strategy to determine which structure better suits your needs.
- Complexity and Formalities: Consider each structure’s administrative requirements and ongoing compliance obligations.
Making an informed decision now can set the foundation for your company’s success and mitigate potential challenges in the future.