Limited Liability Company (LLC): Types of LLCs & Benefits

Limited liability company (LLC)

If you’re considering structuring your business as an LLC, keep reading to learn more about the types of LLCs, pros and cons, equity options, and how they work.

What is an LLC?

A limited liability company (LLC) is a business structure that legally separates personal assets from business assets. This structure protects owners from being pursued personally for repayment of debt or liability associated with their businesses.

How does an LLC work?

LLCs can be viewed as a hybrid of two other types of business structures — partnerships and corporations.

For example, like partnerships but unlike corporations, LLCs may choose to not be taxed directly — instead the individual members of an LLC can report profits and losses on their personal tax returns (this is known as a “pass-through”). The advantage of this tax arrangement is that members of an LLC are taxed once, unlike shareholders of a corporation, who may pay taxes at the corporate level and again as individuals once they receive profits.

Each LLC has an operating agreement that outlines the rules and requirements around its finances, equity structure, distribution rules and general governance. There are no limits on the number of members an LLC can have. Some businesses, such as banks and insurance companies, generally cannot be LLCs.

Types of LLCs

There are a few different types of LLCs, including single-member LLCs, multiple-member LLCs, and Series LLCs. The one that’s right for you will depend on your industry, finances, and business goals.

Single-member LLC

A single-member LLC is an LLC with one owner, similar to a sole proprietorship. For tax purposes, the IRS considers single-member LLCs “disregarded entities.” This means the owner pays self-employment taxes like a sole proprietor and reports all business activity on their personal federal income tax return.

Multi-member LLC

A multi-member LLC is a company with two or more owners (or members). Unless the members file taxes as an S-corp or C-corp, multiple-member LLCs get taxed like partnerships, which means each member pays a portion of the business’ taxes on their personal income tax return. However, unlike a partnership, the members of an LLC aren’t personally liable for unpaid business debts.

Series LLC

A Series LLC is a business entity where you can separate business assets, debts, and more into independent units and assign different members or managers to each unit. Each unit is only liable for and taxed on the specific assets or debts it owns. A Series LLC can be a good option for venture capitalists, private equity professionals, real estate companies, holding companies, or entrepreneurs who want to run several different LLCs as one company. However, they’re only allowed in certain states: Alabama, Arkansas, Delaware, Illinois, Indiana, Iowa, Kansas, Missouri, Montana, Nevada, North Dakota, Oklahoma, Puerto Rico, Tennessee, Texas, Utah, Virginia, Washington, D.C., and Wyoming.

LLC advantages

  1. Easy to form: Every state has different requirements and fees, but in general, the process for LLC formation is straightforward and doesn’t require a lot of paperwork.

  2. Personal liability protection: An LLC offers business owners limited-liability protection for business debts. That means creditors can’t go after your personal assets—like your home or car—if your business defaults on a loan, faces a lawsuit, or goes bankrupt.

  3. Flexible management structure and profit sharing: Members of an LLC can either oversee the company, manage operations, and make decisions themselves, or hire outside parties to take on those roles. LLC members also have flexibility when divvying up the company’s profits and compensating employees with equity.

  4. Flexible tax reporting: You can choose how you want to be taxed, either through pass-through or by electing to be taxed as a C-corp or S-corp, which comes with certain advantages.

LLC disadvantages

  1. Self-employment taxes: The IRS looks at LLCs like partnerships or sole proprietorships in terms of taxes. If you choose the pass-through method, you’re considered self-employed, meaning you pay Social Security and Medicare taxes based on your business’s net earnings.

  2. Can be difficult to raise money from venture capital investors: Most investors prefer to invest in C-corporations due to more options for liquidity and tax reporting.

  3. Incorporation costs and annual fees: Depending on the state, forming an LLC can cost anywhere from $50 to $500, plus annual fees to keep your business active.

How to form an LLC

LLCs are generally easier to form than corporations. While states have different procedures, the general steps include:

  1. Choose a name with “LLC” or a similar phrase at the end.
  2. File articles of organization with a state agency.
  3. Provide information about your business including descriptions of the business and members.
  4. Pay the LLC filing fee, usually around $100, but may vary by state.

Employee equity for LLCs

In a typical corporation, employees can be awarded equity in the form of stock options. LLCs have a different model for employee equity, including:

Profits interest

Employees in LLCs can be awarded profits interest units (PIU). PIUs don’t represent ownership of stock but entitle the holder to a portion of the value an LLC gains over time.

Membership units

Many LLC owners raise capital through limited partners with small direct investments. Membership units (sometimes called capital interests) represent equity similar to shares of a C-corporation.

Phantom equity

LLCs can offer phantom equity grants which act as cash bonuses that vest over time and typically pay out when the company is sold.

Options to acquire LLC interests

Some LLCs enable employees to buy equity later on, similar to corporate stock options.

LLC equity taxes

If an LLC employee makes an 83(b) tax election, they may experience tax advantages similar to those of incentive stock options (ISO). However, consulting an accountant and lawyer is essential to understand taxes associated with profits interests.

Automate LLC management with Carta

Carta can help any company manage its ownership structure, including LLCs, whether they are single member, multiple member, or Series LLCs. It includes tools for cap table management, audit-ready valuations, and secure data rooms for keeping equity documents organized.