When comparing the limited liability company (LLC) and the corporation, an LLC will usually be the best choice for most small business owners seeking to maximize asset protection strategies for the following reasons:
Protecting your business assets from personal creditors. The LLC offers significantly better protection from the claims of the owner's personal creditors. Many states follow the Revised Uniform Limited Partnership Act view (developed from limited partnership law) in preventing a personal creditor with a charging order against an LLC from foreclosing on an owner's LLC interest and forcing a liquidation of the business.
This rule has never applied to corporations. Thus, in contrast, a personal creditor with a charging order against a corporation may attach and vote the interest of an owner of a corporation. A creditor may force a liquidation of the business to satisfy the debt if the debtor's interest was a majority interest, but at any rate it can vote the shares in other ways disadvantageous to the business owner.
Protecting your personal assets from business creditors. The relative simplicity/low cost and the existence of few rules about how to operate an LLC means there is a much smaller likelihood that the doctrine of piercing the veil of limited liability will apply in the LLC. When this doctrine applies, unlimited, personal liability is imposed on the owners for the business's debts. One common way this doctrine is applied is by proving that the owner has not followed all of the statutory formalities applicable to corporations, regarding division of authority among the shareholders, officers and directors; the holding of regularly scheduled meetings; notice, quorums and waiver requirements for meetings; etc.
A statutory close corporation can achieve some of these same benefits. However, even the statutory close corporation does not change the fact that your personal creditors can attach and then vote your shares to liquidate the business, when this would not be possible in an LLC, in most states. Thus, the statutory close corporation probably should be used in place of the LLC only when self-employment taxes represent an important issue or state registration fees for the LLC are excessive.
Use with other asset protection strategies. The LLC is better suited to being combined with other assets protection strategies, including domestic asset protection trusts and estate planning.
If you expect your business to be lucrative (most small business owners do!), you should consider forming a holding entity in Delaware, in part to facilitate the creation of an asset protection trust there. These trusts are formed as an overall part of an asset protection plan. Thus, it makes sense to form the business entity as an LLC, because the LLC offers better asset protection, at least with respect to the claims of the owner's personal creditors against the owner's business interest.
The LLC is also a better choice when it is part of an estate planning strategy of transferring wealth to the next generation, free of estate taxes. While a complete discussion of estate planning is beyond the scope of this section on asset protection, the small business owner interested in protecting assets should at least be familiar with some of the basics of estate planning, and how the LLC can play a role in eliminating estate taxes. In particular, the use of a family limited partnership has proved to be an effective device to transfer wealth to the next generation free of federal estate taxes. The family limited liability company is now being used for this purpose.
In addition to choosing a business form, the owner must also decide how to structure and fund the entity, and in which state to form the entity, which includes decisions about doing business across state lines, foreign qualification and selecting a registered agent. These decisions also can have important asset protection implications.