Inc. vs LLC: Similar post-formation compliance obligations
Both LLCs and corporations have certain obligations they must meet in order to stay in good standing in their formation states. These include filing an annual report, paying franchise taxes, and appointing and continually maintaining a registered agent and office (more on those requirements below).
- An annual report is a report with information about the company, including its name, principal office address, name and address of its registered agent, and names and addresses of its managing officials. In some states this is a biennial requirement instead of an annual requirement.
- A franchise tax is a state’s fee for allowing a company to exist and do business in the form of a corporation or an LLC and all the advantages that brings, like limited liability.
There are penalties for failure to file an annual report or pay franchise taxes, such as loss of good standing status, which can eventually lead to administrative dissolution. This applies to both corporations and LLCs.
In order to remain in good standing, LLCs and corporations have to meet post-formation compliance obligations.
In addition, both LLCs and corporations may be required to file a beneficial ownership information report with the U.S. Department of Treasury's Financial Crimes Enforcement Network (FinCEN).
Inc. vs. LLC: Registered agent compliance for both
Whether you choose a corporation or an LLC, you will have to appoint and continually maintain a registered agent in your formation state and in every other state where your company is qualified to do business.
A registered agent is an individual or a company appointed to receive and forward service of process and certain official communications from the state such as annual report notifications. Service of process is the delivery of court documents - in particular, the summons that informs that your company it’s being sued and by whom, the reason why, and for how much.
Both corporations and LLCs are required to have a registered agent. Keep in mind that this is a critical decision and choosing the wrong registered agent can lead to consequences for your company, like default judgments or a loss of good standing. That’s why we recommend appointing a professional registered agent rather than choosing an employee, attorney, or one of the owners.
Inc. vs. LLC: Different management structures
Corporations and LLCs have different management structures. Management is governed by both the state statute and the governing documents for the business. For a corporation, these documents are the Articles of Incorporation and its corporate bylaws. For an LLC, these are the Articles of Organization and the operating agreement.
Corporations have greater management requirements
Corporation laws have more management requirements than LLC laws. Corporations have to hold annual shareholder meetings, provide notice, hold directors’ meetings, and so on. A corporate director has to be a natural person and cannot vote by proxy.
Many LLC statutes just leave it up to the members to provide in their operating agreement how they will be managed. For example, meetings are not required, and managers do not have to be natural persons and can vote by proxy. This affords LLC owners a degree of flexibility in management that they won’t have with corporations, which is a point generally considered to favor the LLC over a corporation.
LLCs offer flexible management structures
In a corporation, by statute, a board of directors manages the business and affairs (and oversees the major business decisions). The board appoints officers who are responsible for the day-to-day running of the business. Shareholder management functions are very limited and include such things as electing directors and voting on certain major transactions like mergers.
In contrast, an LLC has a choice of two management structures. An LLC can be member-managed — meaning all members participate in the decision-making. This is a similar management structure to a partnership. Or it can be manager-managed - in which members, like shareholders, are investors with limited management functions. The managers manage the business and affairs, and their role is akin to that of corporate directors.
If all the owners want to participate in running the business, LLC beats Inc. But if the members want to be passive investors and have the business run by managers with more expertise than they have, and want the extra protections provided by the corporation statutes, then Inc. beats LLC.
Comparing LLC vs. Inc. for ownership
In terms of ownership, corporation shareholders and LLC members have both financial rights and management rights. In addition to the management rights referenced earlier, other management rights include the right to inspect books and records and bring a derivative suit on behalf of the corporation or LLC. The financial rights include the right to share in the profits through dividends and through distributions upon the company’s dissolution.
In a corporation, the shareholders’ rights are based on their stock ownership. If the corporation issues a dividend of 10 cents per share, all shareholders receive 10 cents per share.
In an LLC, the members can split up the rights so that certain members can get a bigger dividend than others. That financial flexibility is also generally considered a decision in favor of the LLC over the corporation.
Neither the LLC laws nor the corporation laws have restrictions on the number of owners the business can have or who can be an owner. On the other hand, Subchapter S of the Internal Revenue Code limits the number to no more than 100. So, if you want to have a corporation or LLC taxed as an S corporation, you will have to deal with the restrictions described in the discussion of income taxes.
LLCs can have higher financial flexibility, but there are other factors that can go into determining favorable ownership rights.
Different classes and transferability of interests for LLC's and corporations
A corporation’s shares are easily transferable to others (unless the shareholders have an agreement restricting transfer) — making corporations a good choice for businesses that seek outside investment or are considering a public stock offering.
It’s not as easy to transfer LLC membership interests as it is corporate stock. In most LLCs, the consent of the other members is required before someone new becomes a member.
Corporations can also issue different types of stock interests. For instance, they can have a class of common stock with voting rights and a class without voting rights. Or they can issue preferred stock with a right to dividends and distributions that have priority over common stock. LLCs can also offer different classes of membership interests.
However, this is not so if you want to be taxed as an S corporation. The tax law requires S corporations to have one class of stock.
When it comes to the ability to sell or transfer an ownership interest, it’s the Inc. over the LLC.
LLCs and corporations have recordkeeping requirements
Various records, including governing documents, shareholder and member lists, and certain tax returns, have to be maintained by both corporations and LLCs. And members, managers, shareholders and directors have a statutory right to inspect those documents.
Members and shareholders can also demand to inspect other records if they have a proper purpose and follow certain statutory procedures.
Recordkeeping is a fundamental requirement for both LLCs and corporations.
Making your choice: LLC or Inc.
As you can see, corporations and LLCs have some characteristics in common and some that are very different. As you decide which business structure is best for you, try our Incorporation Wizard to compare multiple business types by multiple key considerations.
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