The Main Ways an LLC Can Protect Your Personal Assets as a Business Owner
When setting up a new company, one of the options for choosing a business structure is a limited liability company or LLC. It’s a form of a private limited company that’s specific to the United States and a few other countries. It combines the features of a partnership with those of a corporation. A brief overview of LLCs on Law.cornell.edu outlines that its members have the option to follow pass-through taxation set for partnerships, and get limited liability status similar to that of corporations. Pass-through taxation means federal taxes may not be directly paid by the business itself but passed through the personal tax returns of its owners or partners.
The modern form of LLC traces its roots back to legislation passed in Wyoming in 1977. In short, the law states that the liability of a business owner or investor is limited to the value of their investment in the venture. It’s modeled after the terms for corporate entities because it can be costly for individual stakeholders to cover the liabilities of a company. This is most crucial for businesses that deal with operations across states or other countries, as well as those that are hazardous by nature, like a logistics firm that transports harmful chemicals for example.
The advantages mentioned above have led to the popularity of choosing an LLC as a business structure. In the US alone, there were over 21 million LLCs registered as of 2021.
When it comes to personal asset protection, your LLC can benefit you in the following ways:
Separate Legal Entity
The limited liability protection aspect states that your LLC is an entity that’s legally separate from you and its other owners. Businessnewsdaily.com reports that this distinction can serve as a safety net for when your business faces threats like a lawsuit. Take for instance the logistics example stated earlier and say that one of your employees got into a truck accident with a civilian. If the judge orders the business to pay for damages and the company doesn’t have enough money to cover the amount, the prosecution is not allowed to seize personal assets like your house or car.
Note, however, that this also depends on specific circumstances. For example, it was proven that the company committed negligence because the vehicle in question was improperly maintained, which was the main reason for the accident. Liability protection may not be applicable in this case. Scenarios like this are among the reasons why “limited” is included in the legal term.
As mentioned here in our post on ‘10 Things a Business Plan Must Have’, you have to acknowledge risks as a business owner. An LLC can safeguard your personal assets, yet it’s also wise to be aware of the extent of its protection. This will allow you to make better business decisions to avoid putting yourself and the company in a tight spot as much as possible.
Schedule K-1 Reports
Schedule K-1 is a tax document used by a business entity’s partners to declare income, dividends, and losses. LLC.org notes that this is a requirement for multi-member LLCs. It covers financial statements for the previous full year and filing it is standard practice for pass-through types of businesses.
It can protect your personal assets by exempting you from being financially accountable for company losses, with the exception of your initial investment. Business media outlet Chron.com explains that losses reported on Schedule K-1 are considered ‘passive’ for limited partners, including LLC members. There are times when a company is not profitable and may have trouble paying its business loans. Creditors aren’t legally allowed to force members with passive losses to provide repayments through personal means, such as their own bank accounts.
Independent Actions of Members
Even when one LLC member made a business action resulting in a liability impacting his/her personal assets, the same does not apply to you and/or other members. This is not the case with other business structures, such as a general partnership where all members are exposed to the same liabilities by default.
Along with everything above, be sure to use other strategies like forming a business budget to minimize the possibility of losses. Its importance and scope were previously tackled on the blog by Vince Iannello. Another tactic is to keep your LLC records separate from personal finances. Set up bank accounts exclusively for your business, and ensure POs and contracts are all under the name of the company. You provide better protection to your personal assets by following good business practices in tandem with LLC benefits.
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