Both corporations and limited liability companies offer limited liability to their owners, but there are a number of differences that make an LLC a more attractive choice for closely held companies. The main difference between corporations and limited liability companies is twofold: first, there are tax considerations that typically make it more advantageous for closely held companies to operate as LLCs. The second difference is flexibility. The North Carolina Limited Liability Company Act was amended in 2014 to allow for greater flexibility in management of the company and to defer to the members right to contract with each other in the form of an operating agreement.
While discussions of tax matters are beyond the scope of this article, both LLCs and S Corporations allow for “pass through” taxation. This means that the money distributed as profit is treated and taxed as self-employment income received by the individual member or shareholder. Corporations come in two basic flavors – S corporations, which are taxed like the LLC, and C corporations which pay corporate income tax before distributing money to their shareholders in the form of dividends, which are then subject to personal income taxes. S corporations are subject to a few extra requirements to be formed including limits on the number of shareholders and their citizenship. They are also only allowed to issue a single class of stock. These are not major hurdles for most closely held companies to overcome. As a result, both business forms can produce the same tax structure.
For most closely held companies, the choice between an LLC and a Corporation comes down to flexibility in management. The corporate form requires significantly more procedure than the LLC form does. For example, the North Carolina statute governing corporations requires an annual shareholder meeting. (It is true however, that shareholders in a corporation can act without a meeting if they all agree in writing to the action they take.) In addition, shareholders in a corporation are required to elect a board of directors to manage the day-to-day operations of the company. Shareholders participate in the management of the company largely through a board of directors and by voting on issues required to be submitted to the shareholders. Certain types of actions necessarily involve meetings of both the board of directors and then the shareholders, including amendments to the articles, the issuance of a second class of stock, and dissolution. On top of all of the above meetings, the corporation needs to provide notice of these meetings and formally document them as well. These requirements can be unnecessarily cumbersome for a closely held company.
On the other hand, the LLC Act does not require formal meetings at all. In addition, there is no requirement that the members of an LLC elect directors, managers or officers. By default, all members are equal managers unless agreed otherwise. The LLC Act anticipates that the members will meet and make decisions informally. They also have the option of adopting a corporate management structure and electing a board of directors to manage the company form them, regardless of whether those directors are members of the LLC. LLCs can also make major decisions without formal meetings and can also reduce or eliminate the need for members to approve certain major decisions. For example, corporate shareholders approve decisions and actions by majority vote when a quorum is present unless the shareholders or the Act require a larger number of affirmative votes. That means the corporation cannot reduce the number of votes required below half of the votes entitled to vote on a particular issue. On the other hand, members of an LLC can agree to reduce or eliminate the number of votes needed to approve just about any issue, subject to a list of exceptions. The exceptions generally have to do with the Members right to receive information about how the company is run, their right to bring action against the company in court, the powers of the court over the company, and the rights of creditors. The LLC form allows a company to eliminate a lot of the meetings corporations are required to hold.
The differences between the North Carolina Business Corporations Act and the North Carolina Limited Liability Company Act are too numerous to detail in one article, but the latter Act eliminates a lot of the formality required of corporations, making it a more flexible alternative to the traditional corporate structure.