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Richard
Richard, Attorney
Category: Business Law
Satisfied Customers: 55715
Experience:  32 years of experience practicing law and a businessman.
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What should I expect, cost wise, when I switch my business

Customer Question

What should I expect, cost wise, when I switch my business from a Sole proprietorship to an LLC. And what are the benefits tax wise?
Submitted: 1 year ago.
Category: Business Law
Expert:  Richard replied 1 year ago.

Hi there. My name is ***** ***** I look forward to helping you.

The actual formation of an LLC is relatively easy. First, you want to file a Certificate of Formation with the Secretary of State. You can do this on line at the Secretary of State website: http://www.sos.state.tx.us/Corp/sosda/index.shtml. The filing fee, plus processing, will cost somewhere between $300 and $350 depending upon your method of filing and how fast you want it filed. Second, you will want to prepare an Operating Agreement setting forth the terms and conditions of your LLC operations..such as purpose, contributions, allocations of income and loss, distribution of cash, management, voting rights, and rights to transfer interests. You can get a template of this for about $100. If you would like me to provide you such a template, I can do that for you through the Additional Services option offered by JustAnswer. Third, you will need to obtain an EIN (i.e., Taxpayer Identification Number) from the IRS. You can do this on line in about 10 minutes for no charge at the following IRS website: http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Apply-for-an-Employer-Identification-Number-(EIN)-Online.

The primary reason to form an LLC is for limited liability. To gain a tax advantage, you would need to elect for the LLC to be treated as an S Corp. The biggest issue with the LLC is that as the owner of an LLC, you are considered to be self-employed and must pay the 15.3% self-employment tax contributions towards Medicare and social security. As such, the entire net income of the LLC is subject to this tax. With an S Corp, if you work for the entity, you must pay yourself 'reasonable compensation.' Basically, the shareholder must be paid fair market value, or the IRS might reclassify any additional corporate earnings as 'wages.' Unlike an LLC, where you are subject to employment tax on the entire net income of the business, only the wages of the S-Corp shareholder who is an employee are subject to employment tax. The remaining income is paid to the owner as a 'distribution' which is either taxed at a lower rate or or not at all depending upon the particular facts. BUT, as shareholder, you must receive reasonable compensation. If you get greedy by paying yourself a lower salary with the resulting higher distributions, you risk the reclassifying your distributions as wages. Typically, the best solution is to form an LLC and then elect for it to be treated as an S Corp for tax purposes; this results in the best of both worlds...the flexibility of an LLC and the advantageous self-employment tax treatment of an S Corp. :)

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