A Limited Liability Company (“LLC”) is a business entity form that is enabled by statute in the state where the LLC is formed. LLCs in Nevada are enabled and governed by Chapter 86 of the Nevada Revised Statutes (NRS Chapter 86) (to read the Nevada Limited Liability Company Statute click here: https://www.leg.state.nv.us/NRS/NRS-086.html ).
An LLC generally has fewer business formality requirements than a corporation does. This is certainly true in Nevada, where the statute allows the business owners maximum flexibility on how the LLC is internally governed with no state imposed corporate-type procedural and governance formality requirements (such as annual meetings, special meetings, ownership certificates, etc.).
While the LLC does provide protection of the LLC owners (members) in the same way that a corporation does (it shields and protects the business owners from the liabilities of the company), the LLC is really structured more like a partnership than a corporation (but unlike a general partnership where the partners personally have liability for the debts and liabilities of the partnership, the LLC members are personally shielded from the LLC’s debts and liabilities).
OWNERSHIP INTERESTS IN AN LLC
The ownership interests in an LLC are called “membership interests”. The membership interests may be allocated among the members as percentages of the total outstanding membership interests or they may be designated as membership units (much like shares of stock in a corporation). The members and managers of an LLC may be individuals, business entities (such as a corporation or another LLC) or they may be trusts.
MANAGEMENT OF AN LLC
An LLC does not generally have officers and directors, like corporations do. Instead, the LLC is managed by one or more of the members of the LLC (known as “managing members”) or by one or more non-member managers (a non-owner manager is called a “manager”). In Nevada, when the LLC is formed, the Articles of Organization must specify whether LLC will be managed by one or more of its members (“member managed”) or whether it will be managed by a non-member manager (“manager managed”).
LLC OPERATING AGREEMENT
An LLC is internally governed by an “operating agreement” which is really a contract by and between the members of the LLC. The operating agreement is akin to the partnership agreement in a partnership. The LLC laws don’t always require that the LLC have an operating agreement. In Nevada, an operating agreement is not required. However, a good operating agreement is always a good idea. This is particularly true if the LLC will have more than one member, as the operating agreement enables the members to spell out what the intentions, understandings and terms are that they agree to and that their business relationship will be governed by. A good operating agreement can help serve to actually prevent disputes and potentially costly lawsuits by and between the members, if the keys terms and provisions of their business relationship have been carefully spelled out in writing in the LLC operating agreement.
REASONS WHY AN LLC IS PARTICULARLY ATTRACTIVE – SIMPLICITY & PROTECTION
Because of the general lack of statutorily imposed business formality requirements (which corporations generally have) and the freedom to govern the LLC internally as the members agree (preferably memorialized in a written operating agreement), LLCs have become very popular. They are also a good business entity choice because of the fact that the LLC generally has “charging order protection” (which varies some from state to state) that prevents a judgment creditor of a member of the LLC from seizing the membership interest in the LLC. In some states, charging order protection is only afforded if the LLC has more than one member. In Nevada, the LLC statute does not distinguish between single or multiple member LLCs with regard to the charging order. And the Nevada LLC law is particularly good, because NRS 86.401(2)(a) specifically states that this provision:
“provides the exclusive remedy by which a judgment creditor of a member or an assignee of a member may satisfy a judgment out of the member’s interest of the judgment debtor, whether the limited-liability company has one member or more than one member. No other remedy, including, without limitation, foreclosure on the member’s interest or a court order for directions, accounts and inquiries that the debtor or member might have made, is available to the judgment creditor attempting to satisfy the judgment out of the judgment debtor’s interest in the limited-liability company, and no other remedy may be ordered by a court.”
This statutory provision is one of the primary reasons why Nevada is the best jurisdictions in which to form an LLC.
TAXATION OF LLCS
The way that a Limited Liability Company is treated for Federal Taxation purposes depends upon how many members the LLC has. A single member LLC is deemed to be a “disregarded entity” by the IRS. What this means is that the LLC itself is not taxed, but rather it is “disregarded” for federal taxation purposes. As such, the member of the disregarded entity LLC is essentially treated as if he/she were a sole proprietor for Federal Taxation purposes (but in the “real world”, for every other purpose, the LLC is legally separate from the member). Therefore, the single member LLC does not file any tax return at all [even though the LLC generally will have its own federal tax identification number (EIN)]. Instead, the individual member reports the profits or losses of the LLC on schedule C of his or her personal 1040 tax return. This is often referred to as “flow-through” or “pass-through” taxation (an S Corp, as discussed above is also a pass-through entity, but it does file a tax return to report the income or loss).
If the LLC has more than one member (that are not husband and wife – the husband and wife scenario may be different depending on whether the husband and wife reside in a community property state or not), by default it will be treated as a “partnership” for federal taxation purposes. The LLC that is treated as a partnership will file IRS Form 1065 with the IRS to report the profit or loss of the business, but the LLC itself does not pay any federal income taxes. Each individual member (partner) will report his/her respective percentage of the profits or losses of the LLC from the Schedule K-1 that they receive from the Partnership return. The individuals then each report their share of the profit or loss of the LLC on schedule C of their individual 1040 tax return. [If there are only two members and they are husband and wife and they live in a community property state, they may choose to have the LLC treated as a Disregarded Entity, as if it were a single member LLC].
An LLC may also elect to be taxed as a C Corporation (IRS Form 8832) or as an S Corporation (IRS Form 2553) (if the LLC has under 100 members and all members would be qualifying shareholders under subchapter S – see section on S Corporations above). If the LLC elects to be taxed as a C Corporation or as an S Corporation, as far as the IRS is concerned the LLC will be a C Corp or an S Corp as elected, even though in the “real world” it is an LLC. The ability to elect a different entity classification for tax purpose gives the business owners the option to take advantage of the many benefits of being an LLC but still being taxed as a corporation where that is deemed to be more beneficial to the members (you should always get the advice from a qualified tax profession before determining whether or not to file an election with the IRS to be treated differently than the default taxation treatment).
SUMMARY
In sum, an LLC is often the best business entity choice for many reasons. The Nevada LLC, in particular, provides many benefits to business and the business owners.
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