LLC vs Sole Proprietorship vs Corporation

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LLC vs Sole Proprietorship vs Corporation

**Short Answer: LLCs are the best business structure for the majority of entrepreneurs. Sole Proprietorships offer no protection whatsoever. Corporations are complex and subject to double taxation. See the details below.**


Video Transcript:

In this video, I’m going to tell you why LLCs are the best structure for the majority of entrepreneurs, why sole proprietorships offer no protection whatsoever, and why corporations are complex and subject to double taxation. What exactly is an LLC? An LLC is a Limited Liability Company. It’s a legal entity also known as a business structure and it can be used to run a business, or it can be used to hold assets such as real estate, boats, or aircraft. The owners of an LLC are called members. An LLC can be owned by 1 person called a Single Member LLC, or an LLC can be owned by 2 or more people called a Multi-member LLC. An LLC is a business structure, designed specifically to protect your personal assets from the liabilities of the business. What is a corporation? A corporation is also a legal entity and it is most often used to run a large company with shareholders and investors. The owners of a corporation are called shareholders. After you form a corporation, you must also elect a board of directors to oversee the company and you must elect corporate officers to execute and run the day-to-day business. Corporations are what we typically think of when we hear Microsoft, Apple, IBM, McDonald’s, et cetera. What is a sole proprietorship? A sole proprietorship is when a person does not form a business entity and they operate their business as themselves. In the eyes of the law, you are your business in a sole proprietorship. This is a very risky setup because if your business is sued then you are personally responsible for all of the debts and the liabilities. This means that your personal assets like your home, your cars, and your bank accounts are at risk of being used to cover those debts and liabilities. We’ll save you some time right off the bat. A sole proprietorship is a bad idea. A sole proprietorship offers you no protection whatsoever. A sole proprietorship is typically set up when someone is unaware of the options that they have when it comes to setting up their business structure. In essence, a sole proprietorship is not protecting anything, not you and not your personal assets. What about a corporation? In short, a corporation is not a bad business entity but they are not for everyone. They are best suited for companies that want to go public on the stock market via an IPO, an Initial Public Offering. Again, think Google, IBM, Microsoft, et cetera, or corporations are best suited for companies that need to raise large amounts of money. Additionally, corporations are required to hold annual meetings, record all meeting notes and issue shares to the stockholders. Since most entrepreneurs just want to get their business off the ground, a corporation is usually not the best bet as it will be too complex and costly to maintain, so that brings us back to the LLC. An LLC is a hybrid between a corporation and a sole proprietorship. It harnesses the advantages of both while leaving behind their disadvantages. Let me explain. The disadvantage of a corporation is what’s called double taxation. The corporation must pay taxes at the federal level and then the owners must pay taxes again on their dividends, on their individual tax returns. Corporations, again, they’re also tedious and expensive to set up. You’ll need to create a board of directors, issue shares, as well as elect corporate officers. The advantage, however, of a corporation is liability protection. The owners are protected from the debts and liabilities of the business. The disadvantage of a sole proprietorship is unlimited liability. This means the owner is completely responsible for all of the debts and liabilities of the business. The advantage of a sole proprietorship is what’s called pass-through taxation. Sole proprietorship income pass this through right to the owner’s individual tax return. This means no corporate tax return and no double taxation. Sole proprietorships are also a lot easier to set up and they have flexible management. You’re not required to hold meetings, elect corporate officers, or issue shares of stock, so back to the LLC, it’s the best of both worlds. LLCs provide liability protection. Your personal assets are protected against creditors. LLCs offer pass-through taxation and may avoid the dreaded double taxation. Again, the LLC harnesses the advantages of both corporation and the sole proprietorship while leaving behind their disadvantages. LLCs were adopted by state law and all 50 states nearly 30 years ago to entice more small business growth. LLCs are the most popular and the most flexible business structure for entrepreneurs, business owners and real estate investors.

Have you ever asked yourself which business structure is the best for you?

A Sole Proprietorship?

A Limited Liability Company (LLC)?

Or how about a Corporation?

What is an LLC?

An LLC is a Limited Liability Company. It is a legal entity (business structure) and it can be used to run a business, or it can be used to hold assets (such as real estate, boats or aircraft for example).

The owners of an LLC are called “members”. An LLC can be owned by one person (called a “Single-Member LLC”) or an LLC can be owned by two or more people (called a “Multi-Member LLC”).

An LLC is a business structure designed specifically to protect your personal assets from the liabilities of the business.

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What is a Corporation?

A Corporation is also a legal entity (business structure) and it is most often used to run a large company with shareholders and investors (they are not ideal for owning real estate).

The owners of a Corporation are called “shareholders”. After you form a Corporation, you must elect a Board of Directors (to oversee the company) and you must elect Corporate Officers (to execute and run the day-to-day business).

Corporations are what we typically think of when we hear Microsoft, Apple, IBM, McDonalds, etc.

What is a Sole Proprietorship?

A Sole Proprietorship is when a person does not form a business entity and they operate their business as themselves.

In the eyes of the law, you ARE your business.

This is a very risky structure because if your business is sued, then you are personally responsible for all debts and liabilities.

This means that your personal assets (home, cars, bank accounts) are at risk of being used to cover those debts and liabilities.

A Sole Proprietorship offers you no protection whatsoever.

We’ll save you some time right off the bat… a Sole Proprietorship = a bad idea.

“Okay, sounds good. But which is the best for me?”

Good question.

As we said, a Sole Proprietorship offers you no protection whatsoever.

A Sole Proprietorship is typically setup when someone is unaware of the options they have when it comes to setting up their business structure.

In essence – this structure is not protecting anything. Not you. And not your assets.

Maybe a Corporation would be the better option for you?

In short, Corporations are not a “bad” business entity… but they are not for everyone.

They are best suited for companies that want to go public via an IPO, an initial public offering on the stock market (again, think Google or Microsoft).

Corporations are best suited for companies that need to raise large amounts of money.

Corporations are also required to hold annual meetings, record all meeting notes, and issue shares to the stockholders.

Since most entrepreneurs just want to get their business off the ground, a Corporation is usually not the best bet as it will be too complex and costly to maintain.

LLC Advantages

An LLC is a “hybrid” between a Corporation and a Sole Proprietorship.

It harnesses the advantages of both while leaving behind their disadvantages.

Let me explain.

The disadvantage of a Corporation is what’s called “double taxation”. The Corporation must pay taxes at the federal level, and then the owners must pay taxes again on their dividends (on their personal income tax returns).

Corporations are also tedious and expensive to setup.

Again, you’ll need to create a board of directors, corporate officers, and you’ll need to issue stock to the shareholders.

The advantage of a Corporation is liability protection. The owners are protected from the debts and liabilities of the business.

The disadvantage of a Sole Proprietorship is unlimited liability. This means the owner is completely responsible for all debts and liabilities of the business.

The advantage of a Sole Proprietorship is what’s called “pass through taxation”. Sole Proprietorship income “passes through” right to the owner’s individual tax return. This means no corporate tax return and no double taxation!

Sole Proprietorships are also a lot easier to setup and they offer flexible management (you’re not required to hold meetings, elect corporate officers, or issue shares of stock).

LLCs = Best of Both Worlds

LLCs provide liability protection (your personal assets are protected against creditors) and LLCs offer pass-through taxation (avoid the dreaded double taxation).

LLCs were adopted by state law in all 50 states nearly 30 years ago to entice more small business growth.

LLCs are the most popular and the most flexible business structure for business owners, entrepreneurs and real estate investors.

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Matt Horwitz
Founder & Educator at LLC University
Forming an LLC shouldn't be so complicated. Our step-by-step guide will make the process a breeze – and no complex legal jargon! We teach people how to form an LLC for free in all 50 states. We hope you find our free guides and resources helpful in your entrepreneurial journey.

24 Comments

  1. mary September 13, 2017

    Do you have an operating agreement for manager-managed that you can email me?

    reply
    • Matt Horwitz September 13, 2017

      Yes we do :) I just emailed it to you.

      reply
  2. sabrina October 8, 2017

    I noticed that you don’t speak of a /s corporation. This entty is very important to let your readers know about.

    reply
    • Matt Horwitz October 8, 2017

      Hey Sabrina, great comment. We figured throwing S-Corp into the conversation too early could be a bit confusing for a lot of people starting out. Plus, most people form an LLC and then have it taxed as an S-Corp later on… so we decided to write about S-Corp separately. You can see the article here if it’s helpful: LLC taxed as S-Corp. Thanks again for your comment!

      reply
  3. Buzzed Aldrin November 5, 2017

    Thanks for this great site! Clear and succinct, straight-talking info.

    Question: Re the liability of a sole proprietor, what if it’s highly unlikely that the business would ever be sued?

    In my case, the business is just an e-newsletter, and I think the following points are significant:

    1) The newsletter contains only technical information — It provides no advice, suggestions, or guidance on how to do anything.

    2) It contains a disclaimer absolving the publisher (me) of any responsibility for errors, omissions, etc.

    3) Subscribers are corporate professionals who are aware of the above two points, and aren’t motivated to “blame the messenger” anyway.

    4) The only interfacing I have with others is transmitting the newsletter to readers, and billing their employer. All other activities involve no one, i.e. no clients or suppliers visit me which could otherwise lead to liability scenarios.

    5) I presume an LLC would not protect personal assets in cases involving criminal business activity.

    That said, I don’t feel at risk as a sole proprietor. Since I have the pass-through benefit of an LLC or S-corp without the filing and paperwork issues, is there a downside to my arrangement?

    Thanks for any comments!

    reply
    • Matt Horwitz November 8, 2017

      Good points you’ve made, but still, there are dozens of other reasons one could be sued that you did not mention. We cannot get into legal advice, but this conversation (regarding your exposure to liability) should be carried out with an attorney. Apologies I couldn’t get more into this with you.

      reply
  4. Joseph March 3, 2018

    Let us say that I have a civil judgment against me for well less than 6 figures now, I have paid back about 30k but I still have at least 70 left. Will forming an LLC or Corp help protect money if I can make it?? I would assume because if it became valuable I would own it but I would also have to have a co-owner. Sorry its a complex situation.

    reply
    • Matt Horwitz March 3, 2018

      Hi Josehp, I wish we could be more helpful, but I’m really not sure… but it doesn’t seem like it. This would be a question for an attorney familiar with your case. Best wishes.

      reply
  5. Arno May 6, 2018

    Hi Matt, your page is GOLD. Thank you!
    I understand that although a LLC does not require Directors or Officers it may be appropriate in certain cases including to show that your LLC is actually run as a company. Do you have sample documents for electing officers/ appointing directors and general company minutes? All the best.

    reply
    • Matt Horwitz May 16, 2018

      Hi Arno, thanks for the kind words! You can spell out those roles in the LLC Operating Agreement if you’d like. If not, you can create an LLC Resolution. We don’t have any available at this time, but it’s on our list. Thanks :)

      reply
  6. D Mau May 28, 2018

    Great site! I needed this info now as I plan my business future.

    reply
    • Matt Horwitz June 17, 2018

      Thanks D! Glad we could help :)

      reply
  7. Alicia May 29, 2018

    My business is currently a sole proprietor. How could I change it to an LLc would I have to get a new EIN number or can it be kept the same?

    reply
  8. ravi jagan July 16, 2018

    This is a great service. i paid a lawyer 800$ to get this info first time. It may be complicated. Reg S corp above you may want to mention that when a new entrepreneurship is formed, it is best to form tax tax losses on personal income until turns profitable before filing 8832 and have it classified whatever.

    reply
    • Matt Horwitz August 12, 2018

      Thanks Ravi. We do have a lesson on LLC taxed as S-Corp, so good note there. As an FYI, if an LLC is electing S-Corp tax classification, Form 8832 is not needed. Only Form 2553.

      reply
  9. RAJWANT KAUR August 20, 2018

    Good Morning Matt,
    Your videos and discuss on each topic is very helpful and easy to follow.
    I wanted change partnership to LLC in California under a Qualified Joint Venture, the husband and wife. Do i needs to get new EIN number or I keep the same. If I can keep the same, what form to fill-up.
    thanks

    reply
  10. yinka August 22, 2018

    i am a non us citizen living in Africa who wants to open an LLC in the states… But when it comes to opening of the business bank account, i noticed that all banks require you visit their branch before you can apply.. is there a way i can fax all my document to the bank without making a visit for my account opening..

    reply
    • Matt Horwitz August 31, 2018

      Hi Yinka, no, because of the USA PATRIOT Act, the Customer Identification Program (CIP), Know Your Customer (KYC) laws, and Anti-Money Laundering (AML) laws, you’ll need to visit the bank in person to open an LLC bank account. We have more information here: Non-US Resident Opening a U.S. Business Bank Account for an LLC.

      reply
  11. Randy August 30, 2018

    I created a LLC effective 6/15 in PA. While completing my application for an EIN, I listed 2 under 8b and partnership under 9b with the thought that my wife would be involved. That is not the case and the LLC is a one member entity. Do I need to revise any of my LLC formation documentation. I have made 3 capital investments into another entity, but there has been no return on capital or income earned. Thanks in advance!

    reply
    • Matt Horwitz October 5, 2018

      Hi Randy, since LLC Member information is not present in the PA Certificate of Organization, you don’t have to revise your state LLC documents. You’ll want to prepare a new Operating Agreement though with just you as the Member. You’ll also need to notify the IRS of the change from an LLC being taxed as a Partnership (Multi-Member LLC) to an LLC being taxed as a Sole Proprietorship (Single-Member LLC). Alternatively, you can cancel the EIN and then apply for a new EIN, listing 1 Member. Hope that helps.

      reply
  12. Jon October 19, 2018

    You write great informative articles and i have a question.
    I’ve operated my sole prop companies for a bunch of years and always want to find better ways to reduce losses.
    I have both an llc and an inc resgistered entity in FL, i have an f-ein also. I’m very comfortable with accounting and tax filing but am hoping you can clarify something you touched on.
    Corp (inc) vs LLC; both are run as single owner manager, sole proprietor type business, but formed companies. My annual filing w FL is simple, corp tax (@5%) plus unemployment comp., Fed is pretty simple too (@15% touched on in another article).
    i don’t have a board of directors (inc), i am all officers of both entities.
    I have been filing returns a few yrs without errors or penalties. I’ve been audited and not exposed, or over taxed, so i’m confused about your refrence that Corp is not as good as LLC.
    Esentially, I don’t understand your reference to complexity of the Corp (inc). I’ve been running it as an s-corp, filing purposes, at both state and fed level, using quickbooks. My business compensation model is 55:45 split, personal (employee) income is 45% of the business income and is industry standardized (and payroll processing is a complete loss for the business).
    Example: reported revenue is @$12k monthly (36k/qtrly, 144k/yr), I pass flat 45% to payroll, other operating expenses are additional 25% ( office space (home), transportation, tech equip, communications, etc. on avg), leaving 30% to be adjusted, net, taxed for the corp, and payroll taxes (fitw, fica, mc, uec) on the 45% ($5.4k) are levied on the employee income. I have always used corp and personal business expense deductions across both the corp and personal income filing. I’m not referring to the standard deductions, but business deductions for both the inc and personal business expenses not paid by the company.
    I report the corp quarterly income as required. I’m not asking you for “tax advice”, but don’t understand your reference to complexity and taxation references for inc vs llc
    Are you suggesting I’m being taxed more (twice) on the inc model than i would be as an llc?
    Rephrased, are you suggesting i may pay less tax on the 12k total revenue and no taxes on the individual compensation by using the llc?
    So i’d have $12k revenue, carve out $5.4k as pass through, non-taxed payroll, and then pay fed and local taxes from the remaining $6.6k at a lower rate?
    I ask because I haven’t noticed this, i’ve seen the lower rate taxes at $4.8k corp revenue less the corp $7.2k expenses, with a different rate for the personal income total of $5.4k, net personal income of $4.6k; two tax rates but both low.
    Are you suggesting if i use the llc I would only have one rate and all fed, state income and unemployment taxes are only at the llc rated level?
    Thanks in advance…
    Cheers,
    Jon

    reply
  13. Baton Rouge November 8, 2018

    LLC University is a MEANINGFUL resource to small businesses!!! I’m contacting you to find out if I need to obtain an EIN. I’m working on obtaining an LLC for a sign language interpreting service, but plan to operate it as a single-member entity. I’ve seen information that suggest that it is not necessary to obtain an EIN for an LLC if you will not have employees. However, I’m wondering if there may be instances where having an EIN would be beneficial. Please share your thoughts.

    reply

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