Maybe your business has developed far beyond what your initial expectations of a small business? Have you been thinking about the benefits of lower liability with an LLC instead of your sole proprietorship? If you started your business simply as a sole proprietorship, this may be the year to organize as a limited liability company (LLC). The benefits of reorganizing as an LLC are two-fold. As an LLC you have lower liability and have a business structure that can easily be developed into as large an enterprise as you envision. The disadvantage is the cost of creating and reorganizing your assets. If you consider your business a success, the cost should be secondary to the advisable step for your scope of business activity and developments.

What specific lower liability does an LLC provide? For one, LLC members are not responsible for the debts of the company, unless personally guaranteed. Your business could borrow $250,000 against assets of the company, and absent a personal guarantee have no personal risk. You also receive protection from liability for torts by employees. So maybe you do everything right, but if an employee creates a lawsuit for your business, in a sole proprietorship you could be held responsible.   Taxation on an LLC is not much different than a sole proprietorship for federal purposes. State tax can differ. In Pennsylvania you need file an additional corporate form – an RCT-101. After all the documents are signed, tax compliance will not have much additional expense compared to a sole proprietorship.

Here is what is involved in reorganizing your sole proprietorship. You need an attorney to write the operating agreement, outlining LLC name, activities, management, ownership, etc. Once the attorney has the legal entity registered and active with state of organization, transferring the assets into the LLC is relatively simple. You will need to file and register new employee withholding numbers with your state, new sales tax numbers and a new employer identification number. This will involve updating sales tax exemptions too, business licenses and professional licenses or permits.   You will need to prepare an asset transfer agreement for assets and liabilities from your sole proprietorship to the new LLC. The agreement will need to outline all values of items contributed. You will, in addition, need to sign the agreement.

 

If you are planning to reorganize your sole proprietorship, it’s best to transfer to assets at the beginning of a new tax year. This allows you to properly track net tax profits in the new entity. For instance if you transfer all assets July 1, you would have two separate tax years for your business – six months for the sole proprietorship and six months for the LLC. December 30 is not the time to begin preparing for reorganizing.  You would be advised to do the following, – if your advisors agree. Let’s say its mid July and you want your sole proprietorship to be an LLC. You should contact your attorney and have them form the LLC, prepare the appropriate registrations for employment withholding, sales tax, etc. and prepare to go live with your LLC January 1. If your LLC is up and running as an inactive business in October that is in your best interest; you’re ahead of game.

 

Summary:   If you think that reorganizing your business as an LLC would be beneficial, contact your CPA to discuss how this could work for you. Then work together with your CPA and attorney to successfully convert your business from a sole proprietorship to an LLC.