Since time primordial, there have been three basic forms of business: sole proprietorship, partnership and corporation. Even the evolution of the S-corp was but a modest mutation.
During just the past few years, a new, heretical hybrid has appeared: the limited liability organization. First, somewhat like a cross between a gazelle and an elephant, was the limited liability company, or LLC. The LLC offers the "corporate shield" of protection for owners against company lawsuits and debts while receiving the simpler bureaucratic treatment as a partnership.
The younger cousin is the limited liability partnership (LLP), which arose barely two years ago. It takes the venerable limited partnership and adds the corporate shield.
In the business jungle where "survival of the fittest" rules, new (and established) companies have been flocking to the LLC and LLP structures. How can you choose the best structure for your business? A glance at some recent history will help.
Now, nearly all states allow LLC's, but the lack of uniformity still can haunt interstate businesses. Arizona was an early adopter, however, and muddied the waters even more.
In Arizona, corporations (both S and C) are governed by the Arizona Corporation Commission. Limited partnerships (which are viewed something akin to securities, like stocks or bonds) are regulated by the Arizona Secretary of State's Office. General partnerships aren't under anybody's purview, but may be recorded with the county recorder's office.
Arizona's initial LLC legislation placed the minimal filings required for forming a limited liability company at the Secretary of State's office. The LLC, by virtue of its freedom from restrictions and paperwork, was an often ideal substitute for the S-corporation, and many S-corps found it worthwhile to reincarnate as LLC's. Alas (from the government's viewpoint), this step took many companies out from under the watchful eye of the Corporation Commission -- in short, reinventing laissie-faire regulation.
Arizona, on the other hand, allowed great latitude in LLC provisions -- nice for business flexibility, but creating potential legal havoc. An Arizona LLC could include enough corporate characteristics (such as unlimited life) that the IRS could later rule it was subject to corporate treatment and taxes. Not a nice surprise, although the IRS LLC ruling for Arizona presented specific guidance for avoiding that scenario.
The state legislature began mopping up many of loopholes in the LLC law and in the process shifted the filing to the Corporation Commission. Each new wave of regulatory requirements made the LLC slightly less attractive.
For simplicity, few business structures can match the partnership. Partners aren't employees, so there are no employment tax reports, unemployment insurance, worker's compensation premiums and myriad other governmental paperwork. The catch is that partners are responsible for all company liabilities. In today's litigeous society, that's a serious drawback ... and the reason corporations have been so popular.
Limited partnerships were the original "in-between" entity. They offer protection to investors in exchange for not participating in management. LP's have two hang-ups, however.
First is that whomever runs the company is considered a "general partner" with full personal responsibility for company debts. Second is that, as consumer protection for investors, LP's must file fairly intricate paperwork with the Secretary of State before selling their shares.
Limited partnerships have been the tool of preference for real estate investments. The protection only for passive investors makes them cumbersome for operating companies.
Forming a limited liability entity actually involves multiple documents, which go by some new names. It is just that only one -- a brief statement -- has to be recorded with the state.
An LLC has a one-page filing which then must be published three times in a newspaper. It also has a longer document called the "Articles of Organization" which outline the overall management and capital structure, rather like a corporation's "Articles of Incorporation." A third document, the "Operating Agreement," also may be prepared; it acts something like corporate bylaws.
For an LLP, a four-item filing must be submitted to the Secretary of State and then published. The essentials of the organization are addressed in a "Partnership Agreement." Supplemental documents might also be drafted, but for most small companies minutes of partnership meetings will allow adequate records for adopting policies and internal agreements.
Excessive losses, which are fairly common for new business start-ups, must be carried forward by owners to use against years when the business generates income.