2. If the
investors formed a corporation they have to deal with double taxation
and how to handle that. In other words at the end of the year the profits
and losses would stay in the corporation and if any distributions were
made, in the form of dividends, double taxation would occur. Also, the
Personal Holding Corporation rules may come into effect, which would
be a disastrous tax effect!
3. If the
investors were doing long term trades, and the amount was over $100,000
per year, in a corporate tax bracket that would be taxed at about 22.25%,
but flowing to you personally it would be taxed at 20%, the new long
term capital gain rate!
4. The
LLC will offer more asset protection than the corporation. If you are
running a business as a corporation or an LLC and the business gets
sued, you will get the same result. You would worse case scenario, lose
as many assets in the corporation as the LLC. There would be no difference.
There is a major difference if you were sued personally. Let’s
diagram it out:
Again,
if the Corporation or LLC gets sued, it is the same worse
case scenario result. The corporation or LLC will lose all of
its business assets. That is why you never have many assets
in your main operating company.
If you
as a shareholder of the corporation or member of the LLC gets sued personally,
there is a different result! When a creditor sues you personally and
your insurance doesn’t cover it, like punitive damages,
you can lose your percentage of stock in the corporation to satisfy
the judgement. If you owned a controlling interest in the corporation
and lost, you would lose control of your entire company. This is how
an individual lost his entire $3 million dollar California corporation
recently! Typically, when a creditor gets control of your company he/she
doesn’t want to run the company. He/she just liquidates it and
takes the money or sells it! A corporation’s stock must be protected.
An LLC would be an ideal vehicle if it were taxed as a partnership.
Let’s explain if you were sued as a member of an LLC why that would
be different and you would not lose control of your company.
Now, let’s
say you form an LLC and it is a year from now and you owe a creditor
money. As most creditors do, they will try anything to get the money
out of you. First, it is important to understand what creditors rights
are in this situation. LLCs act like limited partnerships when it comes
to the rights of creditors to impose claims against the property of
the LLC or against a Member’s personal property. If LLC property
is held in its name, the member has no rights to it other than when
it is distributed. Distribution in turn is allocated and timed according
to the operating agreement, usually upon the vote of the members.
You will
learn that the LLC is the best entity to protect investments. What about
rental property? The LLC would be better for the same reasons. Again,
what if you owned 3 restaurants in your hometown and you formed 3 separate
corporations because you wanted to separate out liability from a business
lawsuit.
The reason
you would do this is because if one restaurant were sued it would not
affect the other two restaurants! But what if you owned the stock personally
in all three restaurants and you were sued personally and lost? You
would lose control of all three restaurants! Some people think their
state laws will protect their stock. That is true, but only to a certain
amount. Also, many believe their insurance will protect them in every
situation, that is simply not true. How would you prevent that from
happening? Transfer your stock into an LLC as a management company and
have it formed as a partnership (you would need one other partner; your
wife or business partner would be ideal). Now if you were sued personally,
you don’t own stock in the corporation. The LLC does and the legal
remedy is back to the charging order! Here is how that looks in a diagram:
Here is
a test question: Would you want the LLC that is managing the stock
of those three corporation to do business with the public, i.e. own
title to a piece of rental property? NO! Absolutely not! Why? Remember
earlier, we discussed the difference between an LLC and a corporation
operating a business and if either one was to be sued as a business,
you would get the same worst case scenario result, a loss of all the
assets! Currently in this example, the LLC is only managing corporate
stock and is not doing business with the outside public! When you title
the piece of rental property to the LLC it is now doing business with
the public and if someone sues the owner of the rental property and
finds out it is an LLC and the LLC also owns 100% controlling interest
of 3 successful corporations operating restaurants, you can then lose
control of all three restaurants!
You
are welcome to call our office directly for a FREE consultation at (888)
466-7566.
