The limited liability company (LLC) is a combination of the corporation and partnership structures. It's become one of the most popular legal entities for business owners and is available in nearly all US states. Like the S corp, LLC owners benefit from liability protection and pass-through taxation. However, the structure is much more flexible, making for an easier setup and maintenance.
That said, forming an LLC for the first time can be quite daunting. This is because the process consists of filing paperwork containing terms you may have never heard of. For instance, you might not be familiar with the definition of EIN and the lack of knowledge can easily lead to providing wrong or inaccurate information.
To clear up any confusion, we'll cover the meaning of various concepts you'll encounter when setting up your LLC.
What Are the Key LLC Terms I Should Be Aware Of?
First, let's take a closer look at the very concept of LLC to help you understand how this business structure works.
An LLC is a business entity where the owners aren't liable for the company's liabilities or debts. This feature makes LLCs similar to corporations. Additionally, they share the same pass-through taxation as partnerships.
The statutes regulating LLCs are on the state level. In many cases, ownership of an LLC isn't restricted, which means that anyone can become a member (LLC owners are known as members), including corporations, individuals, foreigners, and other LLCs. However, some entities are prohibited from using this type of business entity to conduct business, including insurance companies and banks.
LLCs are typically more formal than partnerships in that they require the filing of Articles of Organization with your state. At the same time, the structure is looser than that of a corporation, so you can form one more easily.
LLC owners may opt to not pay federal and state income taxes on the company level. In this case, profits and losses will have to be reported on the owner's personal tax returns. Alternatively, an LLC may select another classification for tax purposes, such as that of a corporation.
A business entity is to apply for an Employer Identification Number with the IRS, which companies or employers commonly use for payroll and tax reporting purposes. Also referred to as the Federal Tax Identification Number, it comprises nine digits with information (number combination) about the state where the company is registered.
Unlike your SSN (Social Security Number), your EIN isn't deemed sensitive information subject to fraudulent activities, which is why it can be freely distributed through the internet and various publications. When setting up a business entity in America, you can apply for your EIN by mail, fax, online, or phone.
On top of LLCs, all other business structures can apply for an EIN, even though not all will need it. The list includes partnerships, trusts, estates, S corporations, government agencies, non-profit organizations, sole proprietorships, etc.
Moreover, the size of your company doesn't matter. Whether you're a sole proprietor or employ hundreds of workers, you can apply for an EIN.
What Does IRS Stand For?
The Internal Revenue Service (IRS) is a federal government agency tasked to collect taxes and enforce US tax code. Apart from employment and individual income taxes, the agency also governs corporate, excise, estate, and gift taxes, as well as dividends and mutual funds.
Depending on the organization of your LLC and the number of members, the IRS may treat the company as part of your tax return, partnership, or corporation.
The purpose of Form SS-4 is to apply for your EIN. When filling it out, here's some of the information you'll need to provide:
· The trade name of your business
· Mailing and street address
· Zip code, city, and state
· State and county of the principal business
· Name of the responsible party
There are various definitions of a franchise across states, but we'll use the one provided by the Federal Trade Commission (FTC). Business relationships considered franchises are known for the following three features:
· Franchisors license their logos, trade names, service marks, trademarks, or another proprietary mark to their franchise.
· Franchisors have significant operating control or assistance in the company's business.
· Franchisees make payment to franchisors of a minimum of $500 before or within half a year of starting the company.
Due to the third feature, an official franchise agreement requires a fee.
How Does a Franchise Fee Work?
A franchise fee generally starts with a franchisee's payment to the franchisor upon signing the agreement and becoming a franchise. The amount can be anything over $500 and typically ranges from $20,000 to $50,000. The exact amount is disclosed in the disclosure document.
While the fee payment is sometimes equated with initial support and services offered by franchisors, this isn't the case most of the time. The franchise fee is just a payment charged for becoming a member of the franchise and as regulated by the agreement's terms. Basically, the franchisee pays for the rights to the franchisor's assets and this relationship helps them become more successful. The assets and intellectual properties can be extremely valuable, which is why the upfront fees are sometimes quite high.
Ongoing fees are also included since the franchise continuously benefits from the assets. These fees can be marketing fees or royalty payments and are calculated in several ways. For most franchises, they are a percentage of the franchisee's net or gross revenue. The payment amount and frequency are disclosed in the disclosure document.
How Is the Amount of Franchise Fees Determined?
Normally, the amount of franchise fee stands at a level where franchisors can pay a commission to franchise salespeople and market opportunities to potential franchisees. The fee should also provide them with enough resources to support the franchisees initially. Among other things, these costs include turnkey support, initial advertising, site development monitoring, site approval, and initial training. When setting the fee, a franchisor is aware of the fees imposed by direct competitors.
Nonetheless, franchise fees might not be adequate profit centers for a new franchisor less likely to have access to prospective franchisees. As the franchise system gains traction and more potential franchisees are in the picture, they can start leveraging the fees according to the number of franchise candidates.
When it comes to financial reporting, franchisors can treat franchise fees as income only if they provided the initial support as defined in the agreement.
What Is a Manager-Managed LLC?
When people set up manager-managed LLCs, the members choose the company's managers. In this case, an LLC's member can be appointed as the business manager or part of a management team. The managers of this type of organization are in charge of handling its daily affairs. To that end, many LLCs under this structure hire outside parties to run their business's day-to-day operations.
Registered Agent: Meaning and Function
A registered agent for LLCs is an entity or individual responsible for processing notices, correspondence, and all sorts of compliance-related paperwork. The requirements for qualifying as registered agents are fairly straightforward:
· Your registered agent's residence must be in the same state as your LLC
· The registered agent must have an address where they can receive documents. Post office (P.O.) boxes aren't allowed.
In general, you'll need to designate your registered agent when registering your LLC. If you switch to a different registered agent, you'll be required to file a notification about this change.
Why Should You Have a Registered Agent?
Not holding onto your registered agent after forming your LLC might sound tempting, but this is a bad idea. You may face severe consequences for not having a registered agent.
In particular, the state may no longer consider your LLC in good standing. Additionally, your company could be subject to various fines and penalties. Ultimately, it could lose the ability to enter agreements or bring lawsuits.
You may also not receive important correspondence that requires your response. For instance, if the process server concerning a lawsuit can't reach you, you won't know that someone is taking you to court. And if you fail to respond on time or make it for your court proceedings, this could lead to a default judgment against your company.
As for compliance-related correspondence, not responding could bring about serious penalties, such as costly fines and many other sanctions.
Knowledge Is Invaluable
Forming your LLC should be a whole lot easier, now that you're familiar with the key terms associated with the process. As a result, the LLC agent meaning and other concepts won't be an enigma. With the technical aspect out of your way, you'll be able to focus on selecting the right tax structure for your business and other details that have a more significant bearing on your company's success.