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A Quick Primer on Limited Liability Companies and Partnerships (LLCs & LLPs)

A Limited Liability Company, or LLC, is a far newer type of business entity than a corporation, though they have quickly become the most popular type of business entity around. This rapid growth in popularity is because LLCs combine liability protection afforded by a corporation with a partnership’s lack of strict administrative rules and formalities. And let’s not forget that an LLC can also provide for tax savings as well. While it would be overkill to say you can form an LLC and immediately forget about its required formalities, it is the simplicity of the LLC that has made it hugely popular among small business owners who would much rather be running their business than scheduling shareholder and board meetings.

A Limited Liability Partnership, or LLP, is very similar to the LLC discussed above. In most situations, if you’re considering an LLC versus an LLP, choosing the LLC is the way to go simply because it affords you more options for growth and provides a better business structure overall. However, some states, like California, require certain professionals to form LLPs instead of LLCs for liability purposes. Some professionals, such as attorneys, architects, and accountants, are prevented by state law from organizing as an LLC, and therefore must form an LLP instead.

Photo Courtesy: Manish Prabhune

Choosing Corporation or LLC: The Legal Side of iOS App Development Part III

At this point, you’ve read through Apple’s developer contracts and you’ve decided on an amazing name for your iOS app. But what’s the next step, aside from actually designing and coding your app, of course?

While it is definitely possible to have a single individual, also known in the business world as a sole proprietor, post an app to Apple’s App Store, you’re going to be much better off if you form some kind of business entity before you submit your app. Why? Several reasons—most of which revolve around liability and growth.

But before we get too far ahead of ourselves, we need to ask what is a business entity? It’s kind of a strange phrase, but it’s simply a general term for corporations (both C-Corps and S-Corps), limited liability companies, and partnerships. Which one is right for you is going to be a judgment call you should make after you discuss your situation with other iOS entrepreneurs and a knowledgable business lawyer.

With the general nomenclature out of the way, let’s talk about some specifics. Most small developers like to form LLCs. People talk a lot about the benefits of an LLC (liability protection, electable S-Corp taxation status, lack of corporate formalities). However, there are a number of very significant drawbacks. For example, I’ve discussed this on our site before, but if you’re forming a single-member LLC, you’d better be sure you know what you’re doing—or you could find yourself liable for the debts of your company. And that’s not a position anyone wants to be in. Further, LLCs often have a problem scaling, which is something even the smallest app developer should be concerned with since app development can sometimes be an expensive undertaking and you may want to take on extra investors in exchange for a percentage interest in the company. That said, LLCs are great for a small number of shareholders (called “Members” in the LLC context), but trying to add more members and investors down the road can lead to some major problems. After all, corporations are much better suited to taking on investors than LLCs are.

And that brings us to the corporation. Compared to LLCs, corporations are slightly more costly to set up and require more effort to keep running (in terms of required meetings, corporate minutes, resolutions, etc.). However, if you’re looking for a way to scale your business at some point, setting up your entity as a corporation is the way to go. With the ability to issue a range of stock types to investors, you’ll be in a position to grow in ways you never thought possible.

But what if you’re looking for something in between? You’ve started out and you’re developing your first app, after all. What do you do? Well, we sometimes recommend setting up the LLC first and then converting it to a corporation later. That way you don’t have to worry about all of the corporate formalities at the beginning and you can focus on what you do best—developing your app. Then, after your app is finished and selling like hotcakes on the App Store, you can convert the LLC to a corporation. And to top it all off, you’ll have saved some money to boot.

Next time we’ll discuss the legal ramifications of using third party resources and code in your app—what it means for your development now and in the future.

Photo Courtesy: Thomas Leuthard

3 Problems with Single-Member LLCs and How You Can Easily Solve Them

I help my clients form lots of business entities. While many of them are corporations, LLCs (Limited Liability Company) are, without a doubt, the most popular. It seems everyone these days wants to start their own LLC, and that’s not necessarily a bad thing—but there are drawbacks to having what is known as a single-member LLC.

Before we get into the reasons why a single-member LLC is not necessarily a good thing, we need to go over some of the background on LLCs in general. Time for a history lesson. The LLC was developed as an alternative form of corporate entity from the classic C-Corp, or corporation. Structured based on partnership rules, the LLC is technically just that, a fancy partnership recognized by state law and given added liability protection than what was provided by the typical general partner/limited partner model used by partnerships. If you have an understanding of the difference between partnerships and sole proprietorships, you may see where I’m going with this.

Partnerships all require more than one member. That’s why they’re partnerships, right? You can’t be a partner to yourself. If an LLC is considered to be highly similar to a partnership, then if you’re operating a single-member LLC, it’s like you’re operating a partnership with only one partner—and that’s a no-no. Traditionally, a partnership with only one partner, then, was a sole proprietorship, a type of business entity with undoubtedly the least amount of liability protection you could have. Therefore, if you’re operating an LLC as a single-member LLC, which makes you more like a sole proprietor than a partnership, that means you have less liability protection than if you have an LLC with multiple members. Which, of course, is why I, as a business attorney, always recommend including a second member when forming an LLC. People don’t always listen, but at least we can say we warned them.

OK, so back to the problems with the single-member LLC. Considering the above, we know these types of LLCs have less liability protection than if there were multiple members—but did you know that in some places they’re completely disregarded? Take the IRS, for example. When you register for an EIN (Employment Identification Number), they tell you your LLC will be taxed as a disregarded entity—just like a sole proprietorship. Not like a partnership. Not like a corporation. You have to affirmatively select one of those options. Even more amazingly, some states don’t even allow you to form a single-member LLC. California isn’t one of them, in case you were wondering. Though California will definitely disregard your single-member LLC (and hold you personally liable for damages) if your LLC is ever sued and doesn’t have enough capital to cover the damages if the other party wins.

To recap, the single-member LLC is problematic because it can be so easily disregarded. This means less liability protection, possibly less tax benefits, and the risk of personal liability if your LLC is undercapitalized.

So How Do I Solve This Problem? I Thought My LLC Was Supposed To Protect Me From Liability

The solution is easy: add another member to your LLC. We always recommend a family member, such as your spouse, partner, parent, or child. You don’t have to give them a 50% stake in the company, just a couple percent will do. You still get to make all of the important company decisions while they are just entitled to a very small share of the profits (and losses).

But I Don’t Want To Share!

There’s always those people who feel the’ve built their company by themselves, with their own hard work and capital, and they don’t want to share the membership interest in their LLC with anyone else. A completely valid point that I can definitely accept. If you’re one of those people, just keep in mind that you’re never going to insulate yourself from liability as well as you could by adding another member, but here are a few tips that may help you protect yourself slightly more.

Elect corporate tax treatment with the IRS instead of “disregarded entity” tax treatment that is default with a single-member LLC.

Keep unbelievably perfect records of all meetings and resolutions for your company. Even though you’re only one member, vote on everything. Document all major events. The more records your company keeps, the better.

Never personally sign for any LLC-related purchases or contracts. Always sign your name on behalf of your company.

Never mix money in your personal bank account with your company’s bank account. Keep them totally separate and keep excellent records regarding your LLC’s assets and liabilities.

Use your LLC’s EIN on all tax filings.

So there you have it, some reasons why a single-member LLC is not necessarily the best idea for forming your business entity, and some tips on how to get around the problems it presents.

Photo courtesy: Bob Jagendorf