An LLC is a type of company that is organised via a contract between the owners (known as members). This agreement is known as an operating agreement and details how the LLC will run and how the economic burdens and returns will be split between the members. As a result, LLCs are very flexible, but there are some key reasons why it is generally not suitable for a startup:
Pass-through taxation: LLC members can pass income and loss through their LLC to them as individuals. LLC members can pay personal income tax on the income or losses of the business. This is not suitable for institutional investors.
Foreign ownership: It is possible for an LLC to have non-US resident members, though this will greatly complicate the individuals personal tax requirements and they may be exposed to double taxation.
Employee Stock Options: It is not easy to give your employees an ownership share in an LLC without making them members. Membership to an LLC is not a good way to give your employees ownership as it also gives them control, which is inappropriate. C Corps can issue non-voting shares that allow employee ownership without control, this is the typical approach.
LLC Flexibility: Because an LLC can be governed and operated in a number of ways investors will have to do substantial due diligence, costing time and money. Investors prefer investing in standardised companies under standardised terms, which a C Corp offers.
It is possible to convert an LLC into a C Corp. However, because LLCs are governed by agreements between the members, the process to convert an LLC into an C Corp is complex and will require legal review.
*Clara is not a legal or accounting firm and cannot provide tax advice. Please consult legal and tax professional for advice on how to meet your obligations in Delaware.