While an LLC and a C corporation are both business structures that offer liability protection to owners of a company, they differ in several important ways. C corporations make up the majority of large corporations in the U.S. and are the basis for some smaller companies as well. They are formed by filing for incorporation at the state level. To become a C corporation, the business must have management and a board of directors and must file any required documents yearly. Businesses are taxed twice in C corps, once for corporation revenue and then again when that income passes through to C corporation members (i.e., shareholders).
A limited liability company, or LLC, combines the benefits of sole proprietorship and partnerships. It is easy to form an LLC, and there are tax benefits for doing so (single taxation at the individual level). LLCs also offer limited liability protection that is often superior to the protection for corporations because it is harder to "pierce the veil" and attach personal property to that of an LLC. An LLC is not a corporation: it is considered an unincorporated business entity.
|Suitable for||Medium-size to large businesses with many shareholders (including institutional investors)||Smaller businesses with few shareholders|
|Taxation||Double taxation - Company income is taxed at corporate tax rate (roughly 34%); shareholders also pay tax on dividends or profits distributed (roughly 20%).||Single taxation - Profit or loss are passed directly to members(top bracket 39.6%). Can elect to be taxed as a corporation.|
|Management Level||Officers, board of directors||Only Members and managing members of the company|
|Ownership||Shareholders are owners.||Members|
|Legal entity||Separate entity from shareholders (owners), who cannot be normally held liable for any fiscal obligations||Separate entity from partners, but members may be held liable for non-fiscal obligations|
|Choice of taxation structure given||No. The profits of a C corporation are taxed at the corporate tax rate.||Yes, it is a Single Member LLC - SMLLC or partnership for multiple members by default, and S or C Corporation (by election)|
|Paperwork and records||Formal board and shareholder meetings and minutes are required. Annual state reports are also required to be filed.||Not much paperwork is required. Annual state reports are required to be filed with the appropriate fee; can file by mail but most states allow or mandate online filing|
|Shareholders meeting||Formal shareholders and board meetings are required.||Not necessary, but should have recorded activities and/or advisory boards|
|Continuity of life||Indefinite term||Indefinite term|
Differences in Formation
How to Form an LLC
Typically, forming an LLC only requires a state filing (usually to the secretary of state's office) and in many states can be completed online. Individuals can form LLCs, with the legal, maximum number of members in one varying by state. The state filing consists of information such as the following:
- Members: All LLCs must have at least one member. LLC members are the owners of the LLC, much as shareholders are the owners of a corporation or the partners of a partnership. Like shareholders, a member's liability to repay the LLC's obligations is limited to his or her capital contribution. Members may be natural persons, corporations, partnerships, or other LLCs.
- Membership Interest: A member's ownership interest in the LLC is called a membership interest. Membership interests are often divided into standardized units which, in turn, are often called shares. Unless otherwise provided for in the operating agreement, a member's right to control or manage the LLC is proportionate to their membership interest.
- Manager: LLCs are, by default, managed by their members in proportion to their membership interests. Many LLC operating agreements, however, provide for a manager or board of managers to run the day-to-day operations of the LLC. The managers are elected or appointed by members and may also be removed by members. A member may also be a manager, often called the managing member (similar to the managing partner of a partnership).
- Articles of Organization: All LLCs must file evidence of their existence with the Secretary of State (or some governmental office) of the state where they choose to be organized. The Articles of Organization serve this purpose and are the LLC version of a corporation's Articles of Incorporation. Although the specific information that must be included in the Articles of Organization varies by state, all LLCs must disclose their company name (which must conform to rules set forth by the state of organization), appoint a statutory agent and disclose their valid business purpose. The fees associated with filing the Articles of Organization also vary by state.
- Operating Agreement: The Operating Agreement of an LLC is the document most important to its success because it determines, defines, and apportions the rights of the members. Because the various LLC statutes offer so much flexibility (see discussion below), and the default statutory rules do not fit most LLC's needs, Operating Agreements must be drafted carefully and with much discussion and agreement between the prospective members.
Depending upon the city where the LLC is operating, a filing with the city may also be required. A Federal Tax ID (also called Employer Identification Number) is also required for an LLC that has employees.
How to Form a C Corporation
A C corporation is a corporation that elects to be taxed under Subchapter C of Chapter 1 of the Internal Revenue Code of the IRS. The formation typically requires a state filing, obtaining a Federal Tax ID and the election of management (a president, treasurer and secretary as the minimum number of offices, with at least 2 people occupying them). The state filing typically consists of the following:
- Articles of Incorporation
- Corporate bylaws
- Written consent of incorporator
- Resolutions of the first meeting of the board of directors
C corporations receive a Certificate of Incorporation upon completion of their filing. They are required to keep specific documents and file specific reports on a timely basis. This record keeping allows a C corporation to use tax benefits and apply for others, but also makes "piercing the corporate veil" easier to accomplish, as the records are public. An LLC is harder to pierce because it has much fewer requirements for documentation and filing, keeping that information out of the public eye. As long as LLC members do not commingle funds, the odds of their limited liability protection being removed is almost zero.
Differences in Taxation
While employee Medicare and FICA taxes, as well as state taxes, are not affected by a company's corporate structure, federal income tax treatments may be different for LLCs and C corporations. The corporate tax rate is usually lower than the personal income tax rate. However, in the case of C corporations, there is double taxation because (1) the corporation is taxed on profits, and (2) these profits are taxed again when distributed to shareholders (owners), when the owners are taxed on dividends. A C corporation is considered a separate entity from its owners (shareholders), thus the double taxation.
While a C corporation does not have any choice in terms of federal income tax treatment, an LLC, which is not a corporation and is not considered a separate entity from its owners, can choose to be taxed either as an S corporation or a C corporation.
If an LLC chooses to be taxed as an S corporation (see C Corporation vs S Corporation), the LLC can bypass double taxation by reporting its entire income on the personal income tax returns of its members. This is usually done in proportion to the ownership of each member in the LLC, but may be structured differently in the operating agreement. Not only does this allow for bypassing double taxation, it also means that the losses incurred by the company can be reported on the shareholders' personal income tax return, thereby reducing tax liability. C corporations carry losses forward to offset them against future profits of the company.
However, an LLC will often pay more in taxes because the pass-through revenue is treated as personal income, whereas in an S corporation, the pass-through is treated as dividends. For example, on $100,000 annual income, a sole owner under an LLC could pay $15,000 in Social Security taxes, whereas under an S corporation, she or he could pay much less than half of that amount.
C corporations gain a favorable tax rate from reinvesting their profits into the corporation. This measure significantly reduces tax burdens for C corporations because they can use profits from any corporate-related revenue source as reinvestment credits against taxation. This allows corporations to use offshore profits under repatriation laws to ultimately cut their U.S. tax burdens by 70%-90% or more.
Tax Reporting for LLCs and C-Corps
For C corporations, tax reporting is on Form 1120 for income, salaries are placed on Form W-2, and profit distribution is on Form 1099-DIV. For LLCs, members report income on their personal income tax Form 1040 Schedule C or Form 1065 and Schedule K-1 for profit distributions. LLCs may also opt to be taxed as a C or S corporation. For S corporations, shareholders report income on Form 1120S, salaries on Form W-2, and profit distribution on Schedule K-1.
Business analysts have indicated that an LLC taxed as an S corporation provides the largest range of benefits to single-owner and small businesses, combining simplicity in creation, management, and reporting, with single taxation and strong limited liability protection.
Some states, such as California, New York, and Texas, are now charging a "franchise" or "margin" fee on LLCs. The amount to be paid (quarterly or yearly, as with tax schedules) can be based on revenue, profits, amount of capital invested, the number of owners, or some combination thereof, although a flat fee is also used, for example, in Delaware .
Differences in Management and Operation
Both LLCs and C corporations are required to file annual reports with the state in which they are incorporated, but how they are managed and operated individually differs.
C corporations are managed by a board of directors, elected by shareholders. Day-to-day operations are managed by officers who are appointed by directors.
LLCs can be member-managed or can have a team of managers. This flexibility is similar to a partnership and allows LLCs to outline management duties in their operating agreement, with an optional board of managers.
LLCs usually provide more flexibility in operations since formal shareholder and board meetings are not required. C corporations require that formal shareholder and board meetings be held and the minutes of these meetings be documented and filed.
Because C corporations are the prevalent business structure for large and IPO-seeking companies, they are well-understood by investors. LLCs, on the other hand, are often seen by investors as "confusing" because management and structure are seldom defined clearly and are perceived to be "uncontrolled." For example, an LLC is not required to have a board of directors, which makes it well-suited for entrepreneurs who want to get started quickly and avoid "back seat driving," but to investors, this is the key factor called "oversight."
Other Types of LLCs
A common variant of LLCs is the Professional Limited Liability Company (PLLC, PLC, PL) composed of licensed professionals organized to provide a service. The usual PLLCs are composed of doctors, lawyers, architects, accountants, and engineers, though any group of licensed professionals can form one. In PLCC, the limitations on malpractice suits present in LLCs are eliminated. Some states, such as Texas and California, only allow professionals to use the PLLC structure instead of the regular LLC.
A Series LLC allows an LLC to aggregate properties (assets), but as separate entities linked to an ownership group. This is most often used to individually protect real estate properties so that each stands alone with LLC protection. For example, Acme Trust buys 4 apartment complexes and protects all of them under a Series LLC wherein each building is a separate LLC, but the four share common ownership.
The L3C, or low-profit limited liability company, which is a nonprofit/for-profit hybrid, is recognized in some states, such as Rhode Island and Utah, but not recognized in all (e.g., North Carolina). This LLC is a for-profit social enterprise (business entity) that has a stated goal of focusing on and maximizing social impact instead of profit. This structure provides LLC protection under a nonprofit structure and can take advantage of private and public funding opportunities, such as grants and investment programs. For more information on L3Cs, see this 2010 CNN Money article.