Limited Liability Companies (LLCs) are extremely popular in the small business community.
That's primarily because they are highly flexible business entities that combine some of a corporation's liability protection with the flexibility of pass-through entities likes partnerships or sole proprietorships.
But although many small business owners are quick to jump on the LLC bandwagon, very few really know what they're getting into. LLCs can potentially offer significant benefits for small companies – but realizing those benefits isn't a slam dunk and LLCs come with requirements that most entrepreneurs just aren't prepared to deal with.
LLC members are called owners, not shareholders. Why? Because LLCs aren't corporations. (The "C" in LLC stands for companies, not corporations.) They can be owned by two people (LLC partnerships), more than two people (multi-member LLCs) or even one person (Single Member LLCs). Each member's ownership share and role in the company is defined in the Articles of Organization document. Individual members usually participate equally in the business and changes of membership need to be formalized by revisiting the Articles of Organization.
LLC Member Obligations
The formal separation between business and personal assets (and expenses) is the backbone of an LLC – it's what gives it the legal ability to protect its members from some level of personal liability. If that separation is breached, it can have devastating effects. So maintaining the business/personal distinction is the most important obligation for all LLC members. Here's how it's done:
- Transparency – the LLC has to be transparent in all its dealings. If income or expenses is hidden in personal accounts or if LLC owners co-mingle their personal finances with the LLC, it can jeopardize the company's personal liability protection.
- Funding – LLCs should be independently funded business entities. Any funds that are injected into the company by members should be formalized as investment financing to avoid the appearance of financial fluidity between the LLC and its members.
- Clarity – members should create an Operating Agreement that clearly defines the company's separate legal identity and closely adhere to the requirements it prescribes for LLC members.