Should I have insurance? This question is frequently asked, especially from persons who use or plan to use a Limited Liability Company (LLC) as their legal platform to do business. That question got me thinking about some of the most significant questions and comments we receive when we talk with people about using an LLC.
Even seasoned business people sometimes think of an LLC as a thing of invincibility, particularly regarding liability protection. The question about insurance motivated me to discuss some of the most frequent misconceptions we hear from people about the uses of an LLC and what one should know when considering an LLC. All of the things noted below are important. They are not in order of importance.
- I have an LLC – Do I need liability insurance? Yes, get liability insurance coverage for the LLC and its manager or managers. The amount of insurance, what the insurance should protect, and the details involved to be properly insured (e.g. deductibles, exclusions from coverage, etc.) cannot be adequately covered in a short blog. Discuss your specific business situation with your insurance agent and attorney.
- Managers of LLCs are sued. See number 1 above. The LLC may not prevent the manager from being sued.
- A one member LLC is not an asset protection device under Florida law. For an LLC formed under Florida law to protect the LLC’s business operation and its assets from creditors seeking to satisfy a debt of one of the LLC’s owners, the LLC should have two or more members.
- An Operating Agreement is the most important document to have when forming an LLC. An Operating Agreement is the legal road map for operating the LLC and the relationship of its members, the LLC’s owners. If an LLC and its members do not have an Operating Agreement, Florida law in effect provides one. What is provided is generic and often is not optimal for a particular LLC, its business operations, or its members. It is almost always better to have an Operating Agreement tailored to the values of the LLC’s members and the LLC’s business.
- Planning your LLC and Estate Planning go hand in hand. Estate planning should include your business assets. What happens to your LLC membership interest if you become incapacitated, prematurely die, or want to make sure your interest goes to a specified loved one? An LLC may help to reduce the value of the assets it owns due to applying discounts for lack of control and lack of marketability. To pass additional wealth to future generations, LLCs may structure intra-family sales and to take advantage of discounted gifting opportunities. LLCs may also be used as investment vehicles to allow parents to maintain effective control of the LLC so their child or children have time to learn about the investment strategy or the business operation used by the parents. The down-side to using an LLC may be the perceived complexity to a family’s estate plan. As examples, an LLC will require the payment of fees to operate, usually will require an additional tax return to file with the IRS, and the distributions from and contributions to an LLC will need to be in proportion to the ownership of the LLC, which often requires an adjustment to the parents’ ownership interests.
- Taxes. An LLC may be taxed in one of four ways: (1) as a disregarded entity if there is only one LLC member or members who are married and as a couple elect to be disregarded; (2) as a partnership with two or more members; (3) as an S corporation (assuming the type and number of owners meet IRS requirements); or (4) as a C corporation regardless of the number of members. How your LLC is taxed is a decision to make with the advice of the person who understands your overall financial picture, i.e. usually your CPA. Careful. The LLC Operating Agreement must be tailored to match how the LLC will be taxed.
- Sharing of Profits and Losses. The profits and losses of an LLC are allocated among the members based on the agreed value as stated in the LLC’s Operating Agreement. LLCs may have preferred members. Examples include a member that will receive either the first portion of the profits or a larger percentage of the profits. Note: If the Operating Agreement allows for such features, the LLC may not qualify as a subchapter “S” corporation under federal law.
- Conversion from a corporation to an LLC. If you are operating your business in a corporation framework under Florida law, you may convert your corporation to a LLC and continue to be taxed as a corporation. Why would you want to do this? If you have two or more owners, the asset protection features of an LLC may motivate you to consider this option.
Forming an LLC to achieve its intended purpose is not merely filing the Articles of Organization with the Florida Department of State.
If you are considering the use of an LLC for business or estate planning purposes, or both, first talk with your attorney and CPA. The attorneys at Stross Law Firm can help you. Call us at 813-852-6500 for an initial complimentary discussion.