Corporation or LLC: Which is Better

Entrepreneurs seeking to limit their business liability often ask if a limited liability company supplies better protection than a traditional corporation. And no wonder.

You can hear knowledgeable attorneys and accountants argue passionately for either option.

Nevertheless you can often get a good answer about what makes most sense in your specific situation by looking at the best reasons to form an LLC and the best reasons for incorporating.

Reasons to Choose LLC Option

Two big reasons suggest choosing the limited liability company option. The first reason? An LLC simply requires less governance, red tape and paperwork.

By design, in other words, limited liability companies are structured so you can easily govern how the LLC's owners transact with the LLC and how the LLC governs itself. This "ease" means that correctly operating an LLC (in a legal sense) is very easy. A one owner LLC (also known as a single-member LLC) can safely and legally operate using the simplest of procedures and guidelines. (In comparison, a corporation probably needs to have annual shareholder meetings, a board of directors that meets regularly, and corporate officers who run things on a day to day basis.)

The second reason one chooses an LLC concerns the tax rules for LLCs. An LLC provides a really unique tax advantage as compared to a regular corporation. A one-owner limited liability company can be "disregarded" as a separate taxpayer and then just show its income and deductions on its owner's tax return. This keeps the accounting really simple.

Note: At some future point, an LLC (including a one owner LLC) can elect to be treated as an S corporation or a C corporation. Note that multiple owner LLCs are treated by default as partnerships but that these LLCs, too, can elect to be treated as S corporations or C corporations.

Reasons to Choose Corporation Option

You can point to at least three good reasons to choose a corporation over an LLC, even if you're initially going to be a rather small-time operation.

First of all, a corporation gets some "branding" benefit just by being a a traditional "corporation." This is weird, I'll admit. But some customers and vendors think that a corporation is just plain more legitimate. Accordingly, if for basically psychological reasons you want a corporation or you want words and acronyms like "inc," "corp," "incorporated," or "corporation" in the business name, by all means, chose a corporation. Period.

A second benefit of a traditional corporation concerns the extra governance controls required by a traditional corporation. And, in essence, this is the flip side to that coin about LLCs requiring less governance. People (like outside shareholders) may require the governance controls that a traditional corporation provides. And in this situation, one typically wants to use a traditional corporation.

A third benefit of a traditional corporation deserves mention, too. While the extra tax accounting flexibility that an LLC offers its owners sounds appealing, in some situations the entity wants to be taxed as just a regular corporation (also known as a C corporation) right from the get go. In this scenario, one obviously doesn't get any benefit from the extra "tax flexibility" of a limited liability company. Accordingly, going with a traditional corporation right from the start makes most sense and saves you paperwork. (The traditional corporation will initially automatically be treated as a C corporation.)