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NO, YOU DON’T NEED TO BE AN LLC, SO DON’T WASTE YOUR MONEY

By David G Hanger, EA, MBA

 

April 27, 2021
Tuesday PM


This subject can be summarized this simply: In a closely-held business operation no business organizational form limits personal liability. Don’t care what you hear otherwise, that is the fact. The only thing that limits your personal liability is insurance; that is why they continue in business. Their business is liability protection. Please note, I do not sell insurance, I sell business organizational write-up. It just happens to be my personal standard that I do not sell junk. Many do.

Lots of ads this time of year encouraging you to become an LLC. Go ahead, be a dope, put those letters behind your business name for no good reason, and spend in this state anywhere from $450 and counting on absolutely useless annual fees. There is big money in this gimmick for them, no advantage at all to you, unless by some chance having initials behind a name is important to you.

I put initials behind my name when I write an article like this because this is a statement of fact, not opinion; and in that regard I am eminently qualified to comment on those facts. It is not intended to be ostentatious, but is. Technicians in Hollywood put initials like A.S.C. or C.S.A. behind their names to identify their credentials in what is more a guild system than a merit system, and other than the doctoral triumvirate are the only ones besides CPAs and EAs to generally display initial-dom behind the name. CFPs, RNs, LPNs and others came along later.

‘Initial-dom’ is itself a fad.

Historically, its roots are not deep in US soil or in the US psyche. The British, as a case in point, for a long time have appended award abbreviations after an individual’s name, thus Captain Sir Henry Smythe-Cavendish-Jones, VC, DSO, MC, OBE. Staff Sergeant ‘Snuffy’ Smith, a classic military goldbrick, in May 1943 was the first man in the US Eighth Air Force awarded the Congressional Medal of Honor, so he thereafter commenced referring to himself as SSG ‘Snuffy’ Smith, CMH. In short order he was busted to private and transferred.

Thus the history, sort of.

A closely-held business is any business operated by say one to five owners. Respective liability concerns with any such business it does not matter what organizational form is assumed, be it proprietor, partnership, C corporation, or S corporation. LLC for “limited liability company” is not a recognized organizational form by the Internal Revenue Service. The entity will be treated as a proprietorship, partnership, or corporation. No matter the organizational form in all such entities if the assets of the organization are not adequate to satisfy the liability incurred, in this state the corporate veil can be pierced by a bureaucrat and all of your personal assets are then immediately at risk.

One might limit liability in a LLC if there are 50 investors but only a small management team, in which case only the management team would be at personal risk, but as a general rule if you are going to have 50 investors, you should be a corporation.

The advantages of the various organizational forms can be summarized as follows:

Proprietorships—avoid state corporate taxes (of which there are none for most small business corporations in Alaska at this time). Otherwise, there are no real advantages to this organizational form.

Partnerships—also avoid state corporate taxes, but like proprietorships do not avoid payroll taxes. A partnership is generally considered the worst form of business organization. “Divorce” is routine.

C Corporations—the primary corporate form. It is a separate entity before the law, which tends to make it easier to sell or re-sell, in part or in whole, than any other organizational form. Tax rates have increased on C corporations by 40% on the first $50,000 of net income, and C corporations do not qualify for the “qualified business income deduction” under Code Sec. 199a. Tax rates are fixed at 21% for net profits beyond $50,000, so any larger entity can benefit from being a C corporation.

S Corporations—do not pay payroll taxes on distributions, but only on required salary. This is where the scam players currently reside, not with LLCs. You can call yourself an LLC and be an S corporation concomitantly. The law requires an employee/owner of an S corporation to pay themselves “reasonable compensation” on a W2, so what is the definition of “reasonable compensation?” Basically, it is the average salary including experience levels for your job title in the region in which you reside. In court it will be established by a metrics expert.

The game here is to pay a low salary, say $20,000 to $30,000 and kick out the rest of the income as an annual distribution (essentially a dividend). This saves $1500 in payroll taxes on every $10,000 up to the social security limit (there is no limit on medicare) and saves $290 per $10,000 for the medicare beyond the social security limit. The two problems with this are first it is illegal, but second no one right now is doing anything about it. It is a poor man’s tax scam that in fact is easy to bust and will probably be one of the first attack lines the IRS takes as they ramp up their new audit departments.

Right now there are any number of CPAs and others on the internet gin-milling this crap, so there are literally millions of these. At some point these returns will be stacked up, and the delinquent tax bills sent out; it is so easy an audit no field work is involved.

For the gin-millers it is a game of fees (and ethical corruption) where an annual fee of a few hundreds is now a fee of thousands of dollars a year for additional paperwork that will not ultimately protect their clients one iota if challenged. If you want to gamble that you won’t be caught, the Subchapter S scam is made for you. Understand, though, if apprehended it will cost $50,000 or more in tax and penalties.

Does an honest person, or business person, cheat just because there is a low probability of being caught? In this day and age even for a lot of licensed practitioners the answer is definitively ‘yes.’

It just happens to be my personal standard that I do not sell junk.

David G Hanger, EA, MBA
Ketchikan, Alaska

 

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Editor's Note:

The text of this letter was NOT edited by the SitNews Editor.

Received April 23, 2021 - Published April 27, 2021

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