Single Member LLC–what, why and when?

December 30, 2016 - Posted by: admin - In category:

taxes - No Responses

What is a single member LLC and why would you want one?

We have previously written a fair amount on LLCs generally, including what they are and why they can be useful legal entities. This post will focus on single-member limited liability companies. As the name indicates, a single member LLC has one owner (remember that an LLC owner is often referred to as the “member”). I don’t have any data to verify, but I would venture that this is the most common type of LLC. At least in my professional experience, this has been the case. It makes sense that when a person is starting a business venture of any kind, including real estate investments and otherwise, such person very often will “go into business” with himself or herself, at least at the beginning of the process. Then, as things progress, the business grows and things are going well, additional owners are often added. But in the beginning stages, one-owner business entities are quite common.

Of course, there are several different options when a person is in business for and with himself/herself. Having a single member LLC is certainly not the only option and sometimes it is not even the right option. But more often than not, an LLC is a wise choice and since that is the focus of this discussion, we will restrict the discussion here to LLC matters. We can discuss other options like sole proprietorship and corporations another time.

How do you know if you have an LLC structure (vs. some of the other options)? Believe it or not, I have been asked many times by clients how they know if they already have an LLC. If you are following the do-it-yourself approach (something I would not recommend, but many do it anyway), then you should ask yourself whether you previously formed an LLC with your applicable state agency. Ok, all joking aside, you do NOT “default” into an LLC simply by starting a business. Rather, to have a valid LLC (limited liability company), you or someone on your behalf must fill out papers and pay a fee to the applicable state agency (or do such things online).

We have discussed this formation-of-entity process previously, but this is a good place to issue a repeat warning and reminder that just because you can do something by yourself (by submitting papers or using your computer), that does NOT mean that you SHOULD do it yourself. There are many times when people forming their own business entities make significant mistakes with the boxes checked, the information given, etc. While such mistakes are sometimes easy to correct when they are caught, the most common circumstance is that such do-it-yourself mistakes are not caught by anyone until there has been the passage of much time and in the interim, the relevant business entity is often being operated in a manner which is inconsistent with the information which was given to the state agency and/or the IRS. Obviously, those are not good situations.

The best way to avoid the problems just mentioned is to have a competent professional assist with the formation of your LLC or other legal entity. Even professionals make mistakes on occasion (I am the first to admit my lack of perfection), but I find that such professionals make mistakes far less often than the average non-professional trying to perform a task meant for a professional. Common sense stuff, right? In a similar manner, I could get my own dental equipment and perform my own dentistry (reasoning to myself that my dentist might make a mistake if he did it). Even so, the chances of me making a mistake doing my own dentistry are much higher, compared to my licensed, trained and highly experienced dentist doing the dental work. The same is true with regard to legal matters such as organizing and operating a new LLC or other legal entity. Far more often than not, it “pays” to pay someone who knows what they are doing.

Ok, so why would you want to have a single member LLC? Asset protection is the main purpose for an LLC. A limited liability company is intended to limit the liability of the owner of the legal entity. Pretty straight-forward, right? Even so, you might be surprised to learn just how many times I hear different explanations from people as to why they need or want an LLC. Likewise, your CPA will have specific tax and accounting reasons for recommending for or against an LLC. That said, LLC’s are very flexible entities from a tax perspective. In other words, an owner of an LLC can elect how the LLC will be treated/taxed by the IRS and the state. Therefore, when we are looking at whether and how to use an LLC (including how to structure and operate the same), we are primarily concerned with legal stuff.

The single member LLC should serve as a legal liability firewall to keep any legal claims against the LLC contained within the LLC. In other words, if there is a claim against the LLC, only the assets of the LLC should be available and “exposed” to such claims. On the other hand, the personal assets of the owner of the single member LLC should be shielded and protected from such claims. Likewise, assets owned by another LLC or other legal entity owned by the same owner should also be protected. This is the way LLC structures are supposed to work and when all goes according to plan.

When it comes to tax stuff, the single member LLC will be considered a “disregarded entity” for tax purposes unless the owner has filed an election to be deemed a corporation for tax purposes. Assuming disregarded entity status, all profits and losses of the LLC will be included on the owner’s tax return (Schedule C) in the same manner as if the business were operated as a sole proprietorship. This should make the tax filings very simple each year. When this is the arrangement, there is no separate tax return for the business/LLC. By the way, just a word of caution here with regard to taxes, tax returns, etc. Though not a common occurrence, I have seen a rare situation where an accountant recommends a particular business and tax structure for a client solely because such a recommended structure will result in the requirement for additional tax returns (i.e. more work for the accountant and therefore more recurring fees for the CPA). Again, I have not seen this very often (thankfully), but I have witnessed it a few times. The best protection against such lack of scruples is to involve both your accountant and your attorney in this business planning process. Then, if the attorney or accountant (it could go either way) proposes a path that is not in the best interests of the client, the other professional can be there to blow the whistle and ask the right questions. I should add, in the spirit of fairness, that attorneys can sometimes be involved in the same “fee generation” game. Again, these are happily the rare occurrence and having more than one professional plugged into the process will almost always protect against the same.

When it comes to ongoing legal maintenance of the single member limited liability company, like a multi-member LLC, what is required to keep the limited liability company in “good standing” with the State of Utah (or other state, as applicable) is normally quite simple. The State of Utah (or other state) will not require you to hold annual meetings, file minutes or other reports or otherwise do much other than pay an annual registration fee and ensure that there is a registered agent, etc. So in theory, keeping the LLC in existence can be done without much fanfare. However, please do not take this to mean that there is not more (much more) that you SHOULD be doing on a regular basis to ensure that your limited liability company provides the maximum level of legal liability protection.

To use another analogy–just because it is rather simple for us to consume adequate food and water to keep ourselves alive, we all know that there is can be a significant difference between being “alive” and being healthy. We will focus next time on what you should do to keep your single-member limited liability company healthy–not for its own sake (after-all it is just a sterile legal entity, without feelings or a soul…:), but for your own sake.

Until next time…

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