To avoid losing personal liability protection (piercing the corporate veil), do not mix business and personal finances, skip creating an operating agreement, or ignore state compliance requirements like annual reports. Never treat the business account as a personal piggy bank, fail to sign documents as an LLC representative, or operate undercapitalized.
10 Things to Avoid Doing with an LLC
Here are some things to keep in mind as you maintain LLC compliance: File an annual report: Most states require LLCs to file an annual report or statement. This allows states to track formed or foreign qualified LLCs. Certain states only require you to file every other year.
Your LLC profits are taxed at your individual income tax rates—just like when your LLC is taxed like a sole proprietorship. No double taxation and you can qualify for the qualified business income deduction.
Simply put, if the decision were to go south, could your business afford to 'burn' cash for six months without going under? This is a critical safety net that protects your business's longevity. It's about acknowledging that not every investment will yield immediate returns and preparing for that reality.
LLCs are pass-through entities. Profits and losses flow directly to owners via K-1 forms. For VC limited partners, this creates tax complications they legally can't or won't deal with. So VCs just don't invest in LLCs.
LLC tax avoidance strategies focus on reducing self-employment tax, maximizing deductions, and deferring income through methods like electing S-Corp status (paying reasonable salary + distributions), funding retirement plans (SEP IRA, Solo 401k), deducting business expenses (home office, vehicles, health insurance), paying family members, and leveraging tax credits. Strategic timing of expenses, like prepaying bills before year-end, also lowers current taxable income.
Your LLC structure may not be protecting your assets, according to a judge's ruling. The practice of "piercing the corporate veil" puts you in danger if, for instance, you don't clearly distinguish between business and personal transactions or if you operate the company dishonestly, result in losses for others.
The major new rule for LLC owners is the federal Corporate Transparency Act (CTA), effective January 1, 2024, requiring many small businesses to report Beneficial Ownership Information (BOI) to the Financial Crimes Enforcement Network (FinCEN) to combat financial crime, detailing who truly owns or controls the company. This involves filing a BOI report with FinCEN, including names, addresses, dates of birth, and identifying numbers for beneficial owners and company applicants, with strict deadlines (e.g., 90 days for new LLCs formed in 2024) and penalties for non-compliance, though some states like New York have their own, related laws.
New LLCs can deduct up to $5,000 of startup costs and $5,000 of organizational costs in the first year if total costs don't exceed $50,000. Qualifying expenses include state registration fees, legal fees to form the LLC, initial marketing, market research, business plan development, and accounting software setup.
LLCs Can Complicate Investor Tax Situations
Investors frequently do not want to complicate their personal tax situation by becoming a member in an entity taxed as a partnership, and LLCs are most frequently taxed as partnerships.
Like the sole proprietorship, LLC partnership taxes pass through the entity to the business owners. You'll file IRS Form 1065 with the IRS on behalf of the LLC annually by March 15.
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There's no one-size-fits-all rule, but generally, small businesses are advised to set aside 3-6 months of expenses in cash reserves. Exactly how much that is for you can vary, depending on a few factors: Monthly expenses.
Single member LLCs classified as disregarded entities generally do not report their own income separately from their owners. However, they are treated as separate entities for purposes of the annual tax, LLC fee, tax return requirements, and credit limitations.
Methods to pay yourself
There are two primary methods of compensating yourself as an LLC owner: using an owner's draw or paying yourself a salary. An owner's draw involves withdrawing profits directly from the business's earnings.
An LLC may be disregarded as an entity for tax purposes, or it may be taxed as a partnership or a corporation. Even if your LLC has no income, you may be legally required to file taxes. There are other reasons besides legal compliance that you may want to file a tax return for an LLC with no income.