I recently had a meeting with a startup company that has tremendous potential for growth. If the idea for the business is to take off, it’s likely they will need some capital injection along the way, especially if the owners want the growth they hope for in a short amount of time.
One question we discussed then was what type of entity should they form? The owners initial preference was an LLC but the question is whether an LLC is really the best entity?
The Startup Law Blog has a great article on 12 Reasons for a Startup Not to Be an LLC. The top two reasons cited in the post potentially apply to my new client:
1 – Many Investors Don’t Like LLCs – Investors frequently don’t want to complicate their personal tax situation by becoming a member in an entity taxed as a partnership and then receiving Forms K-1 and being taxed on the entity’s income even if no cash is distributed to them to pay the taxes.
2 – Many Investors Can’t Invest in LLCs – Some investors (such as venture funds), can’t invest in pass-through companies because they have tax-exempt partners which do not want to receive active trade or business income because of their tax-exempt status.
There are 10 other reasons listed in the post but the reasons listed above are the big ones that come up for many emerging companies. Most of what you read out there on the Internet would tell you to go with an LLC, so it’s refreshing to see a post that looks at the different angles. The threat of double taxation scares many away from C corporations but it can be a great entity choice for those looking to raise and reinvest capital.
A key is to consider the end goals for your business. It’s best to get advice from an accountant and business attorney before forming your entity to determine which entity is best for you.