What Is An Llc
An LLC forms a brand-new, legal “person.” This legally recognized entity holds many rights that a person does, including the ability to:
Buy and sell property
Operate a business
LLCs provide protection for personal assets of the business owner in the event of a debt or lawsuit. In many states, owners also known as members are able to collect profits through the business without being subject to corporate taxes. Members in an LLC enjoy a great amount of flexibility in how profits are distributed.
LLCs are separate from the owners, so the business would be subject to legal obligations and most lawsuits, not you personally. LLCs also have some tax advantages over sole proprietorships, as these companies can structure their business taxes in various ways. If there’s only one member, or owner, in an LLC, the rules governing LLCs still apply.
Converting A Partnership Or Limited Liability Company To A Corporation
The situation is different when you want to change a business entity from one formalized type to another, such as when switching from a Partnership or a Limited Liability Company to a Corporation. To accomplish this, generally you will have to form a new Corporation and then dissolve the old business entity, but check with your Secretary of State because some allow you to convert the business instead. The transfer of assets and liabilities from the old company to the new one is usually done through one of the following three methods: by directly transferring assets and liabilities from the old entity into the new Corporation, distributing assets and liabilities to the owners who then transfer them to the new Corporation, or contributing partnership or LLC shares to the Corporation. All three exchanges trade capital interest in the old business for corporate stock in the current one. The old Partnership or LLC is considered terminated upon the liquidation of its assets. Note that while the conversion is technically tax free, gains made through the process, such as reduced liability, have to be reported and may be taxed.
Succession And Estate Planning
If you are considering the longevity of your business and passing it on to either your children or an employee, its important to consider and provide a succession plan to avoid heavy tax implications down the road. By incorporating, if a business qualifies, you will have a lifetime capital gains exception of $866,912 for the 2020 year. Each year the capital gains exemptions are increased. To qualify, the corporation must be in operation for a minimum of 2 years, and 90 percent of the assets must be for business within Canada.
An estate freeze is a way to lock in the gains and, along with that, the capital gains tax based on the corporations value at a specific date. This can be used to minimize any additional taxation in years to come if the assumed guidance is that the corporation will be worth more tomorrow than its current value. It is recommended that you seek professional assistance if your intention is to get the ball rolling towards this goal so you can start enjoying the rewards of your hard work and pass the business torch to someone else.
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Do I Need A New Ein If I Change From Sole Proprietorship To Llc
Business structures change over a period of time and most often it happens because businesses want to take advantage of tax benefits. If you are a sole proprietor who wants to convert his business to an LLC then there will be several changes to the business structure. You may be required to apply for and obtain a new EIN because in sole proprietorship, the business and the individual is the same from a tax perspective but that will not be the case for an LLC.
When You Convert Your Sole Proprietorship To An Llc You Formalize The Business And Enjoy Limited Liability
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To convert a sole proprietorship to a limited liability company , you’ll file the same paperwork as you would if you had created the LLC from scratch. You’ll also update sole proprietorship registrations , bank accounts, and contracts to reflect the change. Becoming an LLC offers you a number of benefits, including protecting your personal assets from the debts of the business and adding credibility to your business by communicating to vendors and customers that you own a formally registered company. However, an LLC is not an option for every company, and converting to that structure might mean you will pay more taxes and fees than had you stayed a sole proprietorship.
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Maintaining Your Limited Liability Protections
After you change your business to an LLC, treat it as a separate business entity, and not a sole proprietorship. If you blur the lines, you could lose your limited liability protection. Proper maintenance of your LLC means following corporate formalities , and keeping your personal assets separate from the company’s assets. To keep your personal assets separate, transfer ownership of all business property to the LLC, list the LLC as the party on all new contracts, and open a separate bank account for the LLC.
Converting A Corporation To An Llc
One of the potentially most expensive conversions is one that changes a C-Corporation into a Limited Liability Company. The exact cost is determined by the value of company assets and whether or not a loss is being generated. The conversion can be accomplished by dissolving the corporation and forming an LLC with the assets of the liquidated corporation, although some states offer a simplified conversion process. Note that any reorganization that does not liquidate the original corporation entirely may be scrutinized by the IRS with all the consequences that entails.
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What Happens To The Current Business/contractor License Or Certificate
In most cases the license, certificate or registration becomes inactive and replaced by the new business structure. Exceptions are:
Plumbing contractors because the license number is held by the master plumber or restricted master plumber associated with the plumbing contractor.
Water conditioning contractors because the license number is held by the water conditioning contractor.
Certified pipelayers because there is no license number issued to businesses that file a plumbing contractor code compliance bond to install water and sewer lines external to building structures.
Licenses and certificates issued to business entities required to obtain and file a bond are inactivated and a new license or certificate issued to the new business entity.
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An Overview Of A Sole Proprietorship
This is an unincorporated business owned by one person. Here, the business is tied to you, and all the liabilities are tied to your ones. If someone sues the business, they are essentially suing you. In the eyes of the IRS, you and the business are identical on matters of tax. Technically, the business does not pay taxes rather, you do it personally.
The formation of a sole proprietorship is not complicated compared to other legal structures since most things are tied to your record. As soon as you set up a venture and it turns a profit, you are a sole proprietor. Until you file the required paperwork to identify your business as a different legal structure, you are a sole proprietor.
However, there are a few things to be cleared before running a sole prop
The IRS will not label your venture as a sole proprietorship unless you turn a profit. Assuming you like yoga and decide to teach some people as a donation. In total, you make just enough to cover your costs. Here, you are practicing a hobby, and unless you turn a profit, the IRS wont regard you as a sole proprietor. If you start charging for each class and make some profit, you must report the income to the IRS as you become a sole proprietor by default.
Common types of sole proprietors include
Update Contracts And Transfer Assets From The Old Business To The New Business
When changing from a sole proprietor to LLC, you need to do one thing that business owners just starting out dont have to worry about: transfer the assets and contracts from your old business to your new business.
To update contracts with existing clients, look at the language of the contract. You may be able to simply assign your existing contract to your new company, or you may need your client to sign a new contract with the new company.
You might transfer the assets from your old business to your new one by having the LLC purchase them from the sole proprietorship or making a capital contribution to the LLC, in which you purchase an ownership interest in the company.
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Sole Proprietorship Vs Llc: Whats The Difference
It can be hard to know if changing from a sole proprietorship to an LLC is right. Take a look at these key points on each business structure to help you decide.
Sole proprietorships are
- Easy and affordable to form
- Considered the same legal entity as the owner
With a sole proprietorship, you are personally responsible for all business losses, debts, and liabilities.
Limited liability companies are
- Owned by one person or more
- Moderately easy and affordable to form
- Considered different legal entities than the owners
LLCs combine aspects of corporations and partnerships. An LLC separates business and personal liabilities, so your assets are protected and owners not liable for business debts. There is also a shared tax responsibility between members, like a partnership.
Responsibilities Of The Llc Owner
With a new business structure comes new responsibilities. An LLC is a step further in business and, therefore, must follow specific laws and policies. LLC owners need to abide by the rules if they want to avoid piercing the corporate veil.
Can you pierce the LLC veil? The required behind the scene work that is needed to keep the LCC operating includes:
Being Mindful of Liabilities
The primary obligation of an LLC is to fulfill contractual obligations and pay the debt it incurs. In other words, they must comply with such responsibilities as performing properly under contracts, scheduling loan payments, paying wages, and compensating contractors, etc.
Other LLC responsibilities include:
Following Rules of Operating Agreement
One of the main differences that stands out when comparing LLC vs sole proprietorship is the operating agreement. LLCs are legally obligated to follow the rules of the agreement.
There is, however, an exception to the rule in the instance where the LLC chooses corporate taxation. LLC responsibilities will then include paying taxes as a business entity.
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Taxation Of Sole Proprietorships And Llcs
When you own a sole proprietorship, you do not file a separate business tax return, nor do you pay corporate tax. You report the business income and losses on your personal tax return. An LLC has more options when it comes to taxes. By default, after you form an LLC you will continue to pay taxes as a sole proprietor, and you can continue to avoid corporate tax. However, you can file paperwork with the IRS to elect C Corporation or an S Corporation tax status.
Complete The Articles Of Organization Document
When filling out this form, you will have to fill out your businesss name and general purpose. The principal address should be listed too.
You will also need to add the name and address for a registered agent. This person or entity should be able to accept documents connected to your business during the week. If notice is served on your LLC, the registered agent must accept the notice on your behalf.
A registered agent may also provide other services, such as the filing of documentation or reminding an LLC about a franchise tax filing date.
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Apply For A New Bank Account
When you form an LLC, you create a new legal entity. The business has many of the same rights as a person, including being able to own property and open a bank account.
Opening a bank account under the name of the LLC helps you separate business and personal funds. A helps you protect personal assets, keep records, and report taxes.
Establish A Bank Account For Your New Business
As a sole proprietor, you might have collected revenue and paid business expenses all through your personal bank account. When you become an LLC owner, thats a big no-no.
Even if you set up a single-member LLC, mixing your personal assets and your business income in the same bank account blurs the line between you and your company. This undermines the reason you decided to create an LLC in the first place.
Many small business owners set up a business checking account, a business savings account, and a business credit card.
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Check Your Business Name
When you are converting a sole proprietorship to an LLC, you need a unique business name. Your current business name might already be registered to another LLC in your state. If thats the case, you cannot operate as an LLC under that name, even if youve been using it as a sole proprietorship.
Check if the name is available by contacting your states secretary of state office. Many states have an online database for registered business names. You can also have a legal professional help you propose a name for your LLC.
Once youre sure no one in your state uses your business name, make sure it doesnt infringe on anyones trademark. Use the United States Patent and Trademark Offices database to search trademarks.
You must include Limited Liability Company in your business name. Or, you can use an abbreviation like LLC, Ltd., or Liability Co.
Usually, you dont need to register your LLC name. The name is automatically registered when you file paperwork to form the LLC. State rules differ, so double check with your state.
S To Convert A Sole Proprietorship To An Llc
You’ve decided to take the next step in growing your business and protecting your personal assets.
These are the steps you will need to take to form your LLC:
Using an LLC formation service is helpful for converting sole proprietorships to LLCs. We usually recommend using a formation service because the free year of registered agent service that is included is worth 2-3x what it costs to form the LLC.
Step 1: Name Your LLC
First, you must give your business a unique nameone that’s distinguishable from all other business names in your state. Our LLC Name Search guide is helpful here.
You might already have a DBA name for your sole proprietorship that you will want to carry over to your new LLC. The steps for transferring or converting a DBA name vary from state to state.
You may also need to contact your state for specific directions on how to transfer your DBA registration. You can find your state’s contact information on our Form an LLC guides.
Business Naming Help
Step 2: Choose a Registered Agent
Your LLC registered agent accepts legal documents and tax notices on your LLC’s behalf. You will list your registered agent when you file your Articles of Organization.
Get an EIN
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Incparadise Can Help You Get A New Ein For Your Llc
If your business is a sole proprietorship then converting to a Limited Liability Company has several benefits such as asset protection, tax advantages , management and ownership flexibility, and flexible profit distribution among others. If you want to convert to an LLC and are wondering how to do it then we can guide you through the process.
IncParadise, one of the reputed registered agents in the country has the experience and expertise to help you convert your existing business entity into an LLC. Our team of professionals will provide information pertaining to dissolving existing business entities and formation of Limited Liability Company in any state so that you can register your business in the fastest possible time. You can also directly apply for business licenses, annual reports, and EIN for LLC right here using our entity Management Software.
Why You Should Turn Your Sole Proprietorship Into An Llc
Youve probably heard it again and again for as long as youve had your small business: You should form an LLC. Its common advicebut is it really the right move for your business?
Most small businesses start as sole proprietorshipsits the most common form of business in the United States. Many of these businesses do eventually take the extra step of registering with the state and becoming an incorporated business like an LLC, but is it worth it? What is there to gain ?
To know if transitioning to an LLC is right for you, its important to understand exactly what it means to be a sole proprietorand how LLCs are different in the eyes of the law, the IRS, and the bank.
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