Startup 101 : Should You Form An Inc. or LLC?

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  cbroming07/10/07 Report as spam
  1

  Inc. or LLC?

  Darmesh's article on this subject (from Nicholas Napp) is excellent. He identifies the differences that drive the decision of which form to choose: flexibility, tax treatment and personal liability protection. (disclaimer: I'm not a lawyer. This is not an "opinion of counsel". Before deciding what to choose, consult a lawyer who is admitted to the bar in your jurisdiction)
  
  In general I agree with his suggestions: a C-Corp is best for the usual private investment vehicle when institutional investors are involved and a LLC is great for those stages prior to seeking institutional money or when your venture is unprofitable. But, I disagree with two of his points: 1) a LLC is an inferior structure for including "outside" investors and 2) bookkeeping and tax requirements are somehow lax (or less restrictive) within an LLC vs. a C-Corporation or S-Corporation.
  
  First, the LLC admits different types of members (shareholders) with different rights and, unlike a limited partnership, may allow sales of shares to third parties without restriction, unless the basic agreement includes specific restrictions on this matter. An "efficient" (well, as efficient as the market for private C-Corp shares) secondary market can exist for these shares. Analogues of "common" and "preferred" shares can be defined in a LLC agreement, too. Thus, for institutional investors, all the usual financial and restructuring options are available (recaps, down rounds, mergers, acquisitions, piggy back rights, conversion, preference, Ican'tthinkofanymorebuzzwordsrightnow). Unfortunately, no jurisdiction has arisen, like Delaware has for C-Corps, that is efficient in administering this structure. And, Mr. Napp is correct in that many (if not most) institutional investors have provisions in their charters that require their investments to be C Corporations.
  
  Second, bookkeeping and tax records should be kept as scrupulously as reasonable regardless of structure. If you choose an LLC, you may elect to be treated as a partnership or as a corporation for tax purposes. The default choice is "partnership" but you may elect to file an 1120. In either case, especially if you choose "partnership", records should be accurate and complete. Good records benefit your investors and your partners - they build trust and reduce fear. You know your K-1 will be right and don't have to worry about an IRS audit, even if the probability of an audit is tiny. Current and potential investors will love you for it.
  
  I know, I know, and I agree: good bookkeeping is not the best use of an entrepreneur's time and energy in the beginning. But, in the beginning, bookkeeping is also the easiest, simplest and will use the least time and energy it ever will (especially the balance sheet and tax reporting). Get it right, now, and the resources (time, attention and worry) you have to commit to it, later, will be exponentially smaller than they will be if you succeed. So, whereas it's not the best use of your time, it's a good one and posting transactions (about 30 minutes/day) should be in your top five daily tasks.

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  fewquid03/28/08 Report as spam
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  Some thoughts

  For some reason, I didn't catch that this article had been picked up here. Thanks for the kind words and the additional thoughts.
  
  A couple of clarifications:
  1) a LLC is an inferior structure for including "outside" investors
  
  The last time I was involved in an LLC with stock was 8+ years ago. As I recall there was a lot of legal maneuvering to set up a "phantom stock" plan. It would have been much simpler/cheaper to just become a C-corp. From your comments, it sounds as though that has changed, which is great. However, most investors seem to still be skittish about anything other than a C-corp.
  
  
  2) bookkeeping and tax requirements are somehow lax (or less restrictive) within an LLC vs. a C-Corporation or S-Corporation.
  
  You make a good point here: keeping the books in order is critical for any business. My point was simply that if you are a C-corp, there are certain procedures you have to follow (board meetings, formal minutes etc) that do not apply to a typical LLC. If you're highly paperwork allergic, there is less that has[/] to be done for an LLC, although board meetings and minutes are hardly a bad idea...
  
  Regards
  
  Nick

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  GregM12407/14/09 Report as spam
  3

  RE: Startup 101 : Should You Form An Inc. or LLC?

  Good read.. I read in the WSJ a few days ago that laws may be changing to futher benefit the LLC. If you need help getting an LLC filed you can visit the experts at www.MyLLC.com