Should I Form an LLC if I Have a Business Partner?

Starting a new company with your business partner is an exciting time, but it’s also a time with many important responsibilities. You need to come up with a name for your new business venture, create a business plan to help guide your development process, and figure out what type of products or services you want to sell.

In addition, you’ll also need to make an important decision about your business entity structure. Should you form a limited liability company (LLC) if you have a business partner? What are the other options?

What Is a Limited Liability Company (LLC)?

First off, let’s quickly outline what an LLC is. A limited liability company mixes elements of sole proprietorships, general partnerships, and corporations, essentially giving entrepreneurs the best of these worlds. LLCs are typically taxed similarly to sole proprietorships and general partnerships, in that the owners include any company profits or losses into their personal returns — the LLC itself does not owe income taxes. An LLC may also elect to be taxed like a corporation, although this is not a very common option.

There are similarities to corporations too, especially when it comes to financial responsibilities. In an LLC, the owners or members are not usually personally accountable for the financial status of the business. This means that if someone sues your LLC, your personal assets are not at risk.

What About General Partnerships and Corporations?

The other two most common options for a business with multiple owners are to operate as a general partnership, or to form a corporation. The general partnership is a casual, no-frills business entity that doesn’t require any formation or maintenance tasks. All you need to do is start conducting business with your partner, and you are automatically part of a general partnership.

The general partnership is obviously quite convenient. However, it certainly has its limitations. To start with, a general partnership is not considered by the government to be a distinct legal entity from its owners. Instead, the general partnership is treated legally as an extension of its owners’ personalities. In fact, the general partnership doesn’t even have its own legal name — it operates under the personal names of its owners.

The big problem with a general partnership is that you don’t receive any personal asset protection like you would with an LLC or corporation. That means that if your business is sued, your creditors can pursue your personal possessions, like your house, car, personal bank accounts, etc. Clearly, this is a situation that should be avoided at all costs, so we really don’t ever recommend operating a general partnership.

How about the corporation? Corporations do receive personal asset protection, and like the LLC, they also have unique business names. The biggest advantage of the corporation, as opposed to the LLC, is that a corporation can issue stock, which means that the corporation has far greater expansion potential than an LLC does.

In addition, the corporation is centuries old, while the LLC has only been around for a few decades. This means that there is more precedent in the court systems regarding how corporations should be treated legally, and that predictability is another positive aspect of corporations.

On the other hand, corporations have more complex formation and maintenance requirements than LLCs do. Corporations have a rigid managerial structure that must be followed strictly, with a board of directors who oversee big-picture matters and officers who handle the daily details. They also require extensive upkeep, like holding regular meetings for its directors as well as its shareholders, and keeping detailed meeting minutes for those meetings.

In addition, while an LLC has several options for taxation models, the corporation only has two (the C corp and the S corp). The C corporation is subject to “double taxation,” which means that profits are taxed at 21% on the corporate level, and that same money is taxed again when each shareholder pays taxes on their dividends.

As for the S corp, it’s a similar tax structure to the LLC’s default option, but there are many restrictions on S corp eligibility that exclude many corporations from using this option. To qualify for S corp taxation, your business can’t have more than 100 shareholders, and every shareholder must be a United States citizen or resident.

Which Is the Best Option for My Business?

It’s obviously quite difficult for us to make any blanket statements regarding which is the “best” business structure. Whether you form an LLC or a corporation, you will receive personal asset protection, which in our opinion is enough to make these far better options than simply operating a general partnership.

At this point, your decision is between a corporation and an LLC. A general rule of thumb when choosing between these business structures is that most small businesses choose the LLC, whereas larger businesses with ambitious expansion plans turn to the corporation.

The LLC is much simpler to form and operate than the corporation, there are typically fewer fees involved, and there is a less formal structure to adhere to when it comes to management. Additionally, the way an LLC provides taxation options to its owners can save you a considerable amount of money.

However, corporations are much better entities when it comes to securing outside investments, because the vast majority of investors prefer stock. It’s not unheard of for an LLC to attract investors, but it is highly uncommon nonetheless.

For most of our readers, we feel like the LLC is the right choice. And keep in mind that if you change your mind down the line, there are ways to convert an LLC into a corporation (and vice versa, for that matter). If you end up deciding that the formalities and expenses of the corporation would actually be worth it after all, you will still have options.

Can You Hire Someone to Form Your LLC for You?

If you’re looking for assistance with your formation without breaking the bank, we recommend hiring a business formation service.

There are dozens of reputable online services that can save you a ton of time, while also costing far less than hiring a business lawyer to form your LLC or corporation. If you want to take a look at the top options, head on over to our guide to the seven top formation services available.