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Understanding Limited Liability Company (LLC) Ownership

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A limited liability company (LLC) is a favored business structure for startups, but what does it entail to be an LLC owner? LLCs offer distinctive opportunities to tailor business ownership to meet the specific needs and situations of the owners. Here's what you need to know about owning an LLC.


Fundamental Concepts of a Limited Liability Company

Owners of LLCs, known as members, can vary in number. When a single individual or business entity owns an LLC, it is referred to as a single-member LLC. Conversely, when multiple individuals or entities hold ownership, it is termed a multi-member LLC. LLCs can accommodate an unlimited number of members. Ownership is typically represented in one of two ways:

  • through membership units akin to corporate shares

  • through percentage ownership


The choice of terminology you decide to use for...


A membership interest ought to align with your company's vision. For instance, if your family predominantly owns the business, defining membership interests by percentages can maintain clarity and simplicity. Conversely, if you plan to attract investment from non-family members, designating ownership interests as membership units might simplify the transfer of ownership rights. This approach can make the process more efficient and transparent for all parties involved.


Defining Ownership Rights

To become a member of an LLC, a contribution of some kind is necessary, though it doesn't have to be in cash, which is referred to as a capital contribution. Members of an LLC can also offer property or services as contributions. Moreover, unlike contributions to a corporation, when an LLC member provides a capital contribution, the associated ownership rights and distributions can be tailored. For instance, even if one member contributes 40 percent of the capital, the members may still decide to divide profits equally.


Typically, members of an LLC have the right to partake in the company's profits and losses, vote on significant LLC issues, examine and review the financial records, and benefit from numerous other privileges. These rights originate from default state regulations but can be tailored through contractual arrangements. The primary contractual document that usually dictates LLC ownership rights is the operating agreement. Operating agreemen


Owners of LLC
Owners of LLC

ts might incorporate the following common customizations:


  • allocating profits and losses in a manner that doesn't align with the members' capital contributions

  • establishing various ownership classes to represent passive investor rights

  • requiring member meetings


Transferring Membership Interests

The main events that initiate the transfer of membership units include death, incapacity, and sale. Nonetheless, if you plan to transfer membership units to investors, it is crucial to assess whether your interest is considered a security under federal securities law. Offering your interest to fewer than thirty-five investors typically qualifies for an exemption, enabling you to avoid federal disclosure obligations and potentially some state securities regulations as well.


Management

Members of an LLC have the option to be governed either by themselves (a member-managed LLC) or by non-owners or specific members appointed as managers (a manager-managed LLC). When an LLC is under management, it is crucial to clearly define and communicate the decisions for which members are accountable and those that managers are responsible for making. If the authority for decision-making is ambiguous, this lack of clarity can impede the effective management of the LLC.


Payment

LLC members have various methods to compensate themselves, such as:

  • receiving income through profit distributions at the year's end,

  • obtaining draws, which are regular payments based on projected annual profits, or

  • receiving regular payments as employees of the company.


These three approaches are not mutually exclusive, allowing a member to utilize more than one option. However, it is crucial for members to be aware that each choice carries distinct tax implications. LLC members need to consider Social Security and Medicare taxes. When LLC members compensate themselves as employees, the LLC is required to withhold taxes just like it would for any other employee. On the other hand, if members pay themselves from profits, they must cover self-employment taxes. In any case, LLC members should be attentive to the tax implications of their chosen payment methods.


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