What is the Difference Between a Corporation and an LLC?

Back to Blog

Starting new businesses typically means making difficult decisions. You’ll need to choose what business entity is right for your business and fits with your business goals. In or near Clarksville, start your new business with the advice and guidance of a Clarksville business attorney.

What is a limited liability company (LLC) and how is it distinct from a corporation? Should your new business be a limited liability company or a corporation? If you’ll keep reading, you will learn how LLCs and corporations are distinct, and you will find some answers you may need.

But every new business is different, so if you are the owner, you should have personalized legal advice about how the laws in Tennessee will apply to your business, and that means scheduling a consultation with a Clarksville business lawyer as early as possible in the start-up process.

How Are LLCs and Corporations Similar?

While understanding the differences is important, it’s also important to understand the similarities that limited liability companies and corporations share. Both LLCs and corporations protect investors and owners from business debts and from lawsuits filed against the business.

LLCs and corporations give owners exactly the same liability protection.

Limited liability companies and corporations are both initially formed by filing legal paperwork with the state. Let your business attorney help you prepare these documents. LLCs must file a “Charter,” and corporations must file “Articles of Incorporation.”

How Do Corporations Operate?

A corporation is the most flexible and adaptable business structure. A corporation is chartered by the state and has legal rights as if it were a person.

Corporations are extensively regulated, and a corporation’s activities are scrutinized carefully by the tax authorities. A corporation appoints directors, conducts frequent meetings, and records the minutes of those meetings. Corporate ownership is changed through the transfer or sale of stock.

How Are LLCs Different?

A limited liability company is similar in some ways to a corporation, but LLC owners do not have to hold regular meetings.

Additionally, the paperwork requirements and the legal restrictions on limited liability companies are significantly less burdensome and daunting than the requirements and restrictions for corporations.

What is the Formation Process for LLCs and Corporations?

All fifty states recognize corporations and LLCs. LLCs are formed when one or more owners (or “members”) file a Charter. The members then prepare an “Operating Agreement” which spells out each member’s percentage of the ownership.

On the other hand, corporations are formed (or “incorporated”) when the owners (“shareholders” or “stockholders”) file Articles of Incorporation and select a Board of Directors to supervise the business and establish its corporate by-laws.

Both corporations and LLCs have owners, but in a limited liability company, the “members” own the assets of the business because of the investments they’ve made. In contrast, a corporation’s owners own stock shares, but they do not own corporate assets.

What Are the Most Important Differences?

The biggest difference is that corporations have “shareholders” and LLCs have “members.” Corporations tend to have many owners, while LLCs are now the most common small business entity type.

An LLC has a liability shield like a corporation, but LLCs usually avoid the corporate tax rate, as an LLC’s individual members are personally taxed on the earnings of the company, based on their individual percentage of the earnings. “S” Corporations are taxed the same way as LLCs.

What Are “S” and “C” Corporations?

All corporations begin as C corporations. A C corporation may be changed to an S corporation by filing IRS Form 2553. C corporations and S corporations are taxed differently, so the main reason to choose an S corporation is to reduce taxes.

C corporation profits are taxed and reported on the corporation’s federal tax return. Any after-tax profits that are distributed to the shareholders as dividends are taxed again when those dividends are reported by shareholders on their personal tax returns.

However, “double taxation” is avoidable by choosing S corporation status. S corporations are treated like sole proprietorships and partnerships. Profits or losses pass through S corporations to shareholders, so the only tax is the tax on what shareholders report on their personal tax returns.

Some states also pass profits and losses to an S corporation’s owners, but other states “double tax” S corporations.

How Are Losses and Profits Handled?

Corporations and LLCs handle their losses and profits in different ways. A limited liability company’s losses and profits “pass through” to the individual members, who pay income taxes – for their percentage of the limited liability company’s profits – on their personal tax returns.

With a corporation, however, losses and profits remain with the corporation. The corporation – and not the owners – pays taxes on profits and losses. Corporations retain their earnings, although some earnings eventually and indirectly go to shareholders in the form of dividends.

How Are Corporate and LLC Income Taxes Handled?

LLCs and corporations both pay taxes on their annual profits. Since 2018, the corporate tax rate in the U.S. has been 21 percent. Corporate shareholders then pay personal income taxes on the dividends they receive, so corporations are subject to what may be called double taxation.

Members of LLCs receive a percentage of the profits annually and pay the tax on their shares as part of their personal income taxes. For instance, if a limited liability company with two members makes $100,000 in profits in 2022, each will pay personal income taxes on $50,000.

LLC members are considered self-employed. They are required to pay for self-employment taxes (including the Medicare and Social Security tax) on their portion of the LLC’s annual profits. A corporation’s shareholders are not self-employed and do not pay a self-employment tax.

How Will a Business Attorney Help You?

Whether your new business should be a corporation or a limited liability company is a complicated decision that cannot be made under pressure or in haste. It takes thoughtful consideration and the advice, guidance, and insights of an astute business lawyer.

Before you take any other step toward starting up a business, consult a Clarksville business attorney who has experience forming and advising both corporations and limited liability companies. Your lawyer will also prepare the documents a new business must have, including:

  1. a Charter or Articles of Incorporation
  2. by-laws
  3. operating agreements
  4. shareholder agreements
  5. all other contracts and agreements

Many business owners deal daily with employment, hiring, zoning, tax, advertising, and environmental laws and regulations. Even minor violations or honest mistakes can take your time and money and trap you in a maze of legal paperwork that seems to never end.

When Should You Contact a Business Lawyer?

Business attorneys help owners put solutions in place before legal problems arise. Even before you start a business, you’ll find that the advice of a business attorney is invaluable. Your attorney can work with you to prepare a sound business plan to help you obtain loans or attract investors.

Launching a business is never easy, but a Clarksville business lawyer can help. Selecting the right business structure and creating an effective business plan – with an attorney’s help – will reduce your risks and enhance your new company’s prospects for success.

You need an attorney who will fight effectively for you if the business is sued or falls under investigation. A business attorney can also help you prepare and negotiate contracts, and your attorney will help you obtain the maximum legal protection for your intellectual property.

If you have a Tennessee business attorney on your team from the very beginning, you will be advised by someone who already knows you and knows your business when legal needs emerge or legal issues arise. It’s the very first investment your new Tennessee business should make.

Previous ArticleHow To Deal With Sibling Disputes Over Power of Attorney In Tennessee Next ArticleKentucky Community Property Trust