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When entrepreneur and restaurateur Pinky Cole made headlines giving LLCs to Clark Atlanta University’s entire graduating class in 2022, she wasn’t just giving them paperwork—she was giving them a foundation for kick starting their own small businesses. Her gift highlighted an important question for new entrepreneurs: Why start an LLC rather than a simpler business structure like a sole proprietorship?
LLCs are popular for good reasons. They’re relatively easy to set up, offer tax advantages, and protect your personal assets. Here’s what you need to know about LLCs and how to start one.
What is an LLC?
An LLC is a business structure that combines the best elements of different business structures. Like corporations, LLCs are legally separate from their owners, protecting your personal assets from business debts, damages, and losses. But LLCs also offer the tax simplicity of sole proprietorships and partnerships—profits and losses are passed through to the members, who report them on their personal tax returns.
Types of LLCs
You can structure your LLC in several ways, depending on your desired ownership structure and operational needs.
Single-member LLC
A single-member LLC has just one owner. According to the IRS, it becomes a legally separate entity from the owner only when two things happen: the single member files Form 8832, and the LLC elects to be taxed as a corporation.
Series LLC
A series LLC lets a single LLC own multiple independent divisions, or “series.” Each division operates independently and is responsible only for its own debts and obligations. This tiered structure means the umbrella LLC owns other LLCs, and each division can have its own members.
L3C
A low-profit LLC bridges the gap between for-profit and nonprofit organizations. This hybrid business structure attracts foundations and socially responsible investors who want to support good causes while earning returns. While L3Cs don’t get the tax exemptions that traditional non-profits do, they can receive grants and program-related investments from foundations—something most for-profit business can’t do.
Member-managed LLC
In a member-managed LLC, the owners directly handle day-to-day operations and business decisions.
Manager-managed LLC
A manager-managed LLC separates ownership from operations—the LLC members hire managers to run the business.
Foreign LLC
Foreign LLCs operate in states or countries outside their formation location. For example, you might form your LLC in Delaware but conduct business in New Jersey, or an Irish LLC might operate in Massachusetts.
If your foreign LLC produces, imports, or sells certain goods in the US—like alcohol, tobacco, fuel, firearms, or luxury items—you may need to pay federal and state excise taxes.
How to start an LLC
- Choose a name for your LLC
- Choose a registered agent
- Obtain your EIN and check tax requirements
- Draw up an LLC operating agreement
- Open a bank account for your LLC
- File your articles of organization
- Obtain necessary licenses or permits
Starting an LLC involves several key steps. While specific requirements vary by state, here’s how to set up your LLC:
1. Choose a name for your LLC
Before settling on a name for your LLC, check your state’s business database to make sure it’s available. Each state has its own naming rules. Most states don’t allow duplicate LLC names and may require you to include “LLC” or “Limited Liability Company” in your name. You may also face restrictions on certain words or phrases you can use in your business name.
2. Choose a registered agent
Your LLC needs a registered agent—someone who receives legal documents for your business. You can act as your own registered agent, choose an LLC member, or use a third-party registered agent service.
Note: If you plan to be your own registered agent, most states require you to be physically present at your registered address during normal business hours. This is why many business owners opt for a registered agent service.
3. Obtain your EIN and check tax requirements
Get your employer identification number (EIN) from the IRS before registering with your state. You can apply online through the IRS website or by mail using form SS-4. Make sure to check your state’s specific tax requirements rules—they may have additional rules for LLCs.
4. Draw up an LLC operating agreement
If you have a multi-member LLC, create a written operating agreement that outlines day-to-day business operations, member duties and rights, how to handle asset distribution if a member leaves, and dissolution procedures.
5. Open a bank account for your LLC
After completing your operating agreement, open a business bank account. You’ll typically need your EIN, LLC formation documents, and operating agreement to set up your account.
6. File your articles of organization
Submit your articles of organization to your state’s Secretary of State office. Most states offer online filing options and provide standard forms to complete. You can handle this step yourself or work with an attorney or filing service.
7. Obtain necessary licenses or permits
Depending on your industry, you may need business licenses, professional permits, industry-specific certifications, or state and federal registrations.
Each state handles LLC formation differently, so check your state’s specific requirements. While you can complete most steps yourself, consider working with a legal professional to ensure you’ve met all requirements, especially if you’re forming a multi-member LLC or operating in a regulated industry.
Benefits and challenges of starting an LLC
Limited liability and pass-through taxation can help many small business owners. But these features aren’t always advantages—they depend on your specific situation. Here’s what to consider before starting an LLC.
Benefits of an LLC
An LLC structure has benefits that range from soft advantages, like how customers and investors perceive your company, to more consequential ones, like liability protections for members.
Protection from personal liability: Because an LLC is a legal entity separate from its members, your personal assets are typically protected from business debts and losses. If your LLC faces bankruptcy or lawsuits, your personal finances usually stay safe.
Simple setup process: You can often complete LLC registration online by filing forms and paying a filing fee. Many states process applications within a few business days.
Professional credibility: An LLC structure signals stability to customers and potential employees. This formal business structure can help you build trust more readily than a sole proprietorship or partnership.
Access to capital: The structured nature of an LLC can make your business more attractive to investors and lenders. Many see LLCs as more established and reliable than informal business structures.
Tax advantages: LLCs avoid double taxation through pass-through taxation. Members pay federal income tax only on the share of LLC earnings, and the company doesn’t pay separate federal corporate income taxes.
Challenges of an LLC
While the advantages of starting and running your business as an LLC are many, there are some important potential disadvantages to note.
Startup costs: LLC formation fees range from $40 to $500, depending on your state. You’ll also pay fees for:
- Name reservation
- Registered agent services
- Publication requirements (in some states)
- Annual registration fees
Limited protection in some cases: While LLC members’ personal assets are typically protected from business litigation, this protection isn’t absolute. A judge may rule that personal assets aren’t protected if LLC members haven’t followed proper business practices. The liability shield may not extend to members who:
- Commit fraud during business operations
- Fail to pay required taxes
- Inappropriately mix personal and business finances
- Personally guarantee a business loan or debt
Even though LLC assets are legally separate from personal assets, maintaining this separation requires careful attention to legal and financial requirements. Proper record-keeping and strict separation of business and personal finances help ensure your LLC’s liability protection remains intact.
Record-keeping requirements: LLCs need more documentation than sole proprietorships. Multi-member LLCs especially must maintain detailed financial records and track compensation carefully. Keeping detailed records helps prevent disputes if members leave or the business closes.
Complex dissolution process: Closing an LLC takes considerable effort. You must:
- File dissolution forms with your state
- Document member votes to close
- Notify creditors
- Settle business debts
- Alert tax agencies
- Distribute remaining assets according to your operating agreement
How to start an LLC FAQ
Should I form an LLC for my side hustle?
Consider forming an LLC if you want liability protection or work in a higher-risk industry. Your decision should align with your business goals and circumstances.
What are alternative business types to LLCs?
You can structure your business as a:
- Corporation
- General partnership
- Limited partnership
- Limited liability partnership (LLP)
- Sole proprietorship
Each structure has its own benefits and requirements. Choose the one that best fits your business needs, growth plans, and risk tolerance.
What happens if an LLC member wants to leave the business?
When a member exits an LLC, the process follows your operating agreement’s terms. This is why having a detailed operating agreement from the start is crucial. The agreement should spell out how ownership transfers work, how to value the departing member’s share, and whether remaining members get first rights to buy that share. Without clear terms in your operating agreement, member departures can lead to disputes and potentially force the LLC to dissolve. If you’re forming an LLC with multiple members, work with a legal professional to address ownership transitions in your agreement.
