Business 101: What Is a Limited Liability Company?

As of June 2013, the US unemployment rate stands at 7.6%. This is in spite of the economy adding 195,000 jobs, indicating that roughly the same number of jobs were lost in the same period. In this situation, the average unemployed American can either spend several fruitless months hunting for a job, or start a business like a limited liability company (LLC).

Definition of an LLC

Generally, a limited liability company is a partnership-corporation hybrid. While owner liability for business debts is restricted like that of a corporation, income taxation is on a per-owner basis (i.e. flow-through taxation) like that of a partnership. Owners of such a company are known as members.

Limited liability companies are not necessarily different beasts from partnerships and corporations, though. The IRS can choose to treat an LLC like a standard partnership, corporation, or even a sole proprietorship depending on state laws, number of members, and elections made by the LLC.

Types of LLC

A limited liability company can be domestic or foreign. If an LLC, for example, organizes in Tennessee and also operates in Tennessee, then it is considered as a domestic LLC. But if it organizes in Tennessee and operates in Kentucky, it is classified as a foreign company.

Many LLCs are organized between professionals like lawyers, accountants, and doctors, hence the name “professional LLC.” Members of a professional LLC have to present, among other things, their state licenses to prove that they are qualified to perform their services. Also, they have less protection from liability compared to members of “normal” LLCs because of professional malpractice laws.

Pros and Cons of an LLC

The limited liability company model appeals to business owners mainly because of the lower risks involved. After all, who wouldn’t want to pay only their fair share of business debts? LLCs are also not as strictly regulated as corporations, so they’re more flexible and less cumbersome to set up.

Of course, for every advantage a limited liability company has, there’s a corresponding disadvantage. Because LLCs tend to stay small, they usually have more difficulty raising capital. Major conflicts among members can likewise tear the company apart, since the members have equal management authority within the organization.

Given its nature, pros, and cons, the limited liability company model is not for every business owner. (Then again, so is every other business model.) For those who take to this kind of system and can make it work, however, the results can be astounding.