Avoid These 5 Deadly but Avoidable New LLC Mistakes
Did you start a new LLC to operate your business?
Congratulations. That’s a big step that will improve your credibility, protect you from liability, and even potentially save big on taxes.
However, just having an LLC on paper isn’t enough. There are many important steps that you MUST take to make sure that you get the full protection and benefits of your new LLC. Ultimately, taking steps will also make sure that you have fewer obstacles as you grow your business into something that you can eventually sell or otherwise plan a graceful exit.
Here are five of the biggest new LLC mistakes I’ve seen people make. Avoid them and you’ll be well on your way to making your business run smoothly and with minimal legal hassles.
Mistake #1: Not maintaining a separate bank account for your new LLC
Not having a separate bank account in the name of your LLC is one of the biggest mistakes you can make. Not only will you create an accounting nightmare for yourself in no-time, but commingling (or mixing together) LLC and personal funds is one of the top reasons courts allow creditors to pierce your LLC’s corporate veil and allow them to access your personal assets. Not good!
Luckily, opening a bank account for your LLC is super easy. Just go to any bank with the following documents:
- Your LLC’s Employer ID Number (“EIN”) this is like your LLC’s social security number
- Your personal ID
- Your LLC’s Operating Agreement
- Your LLC’s articles of formation (some financial institutions will require that you bring a certified copy)
- A banking resolution (an internal LLC document that authorizes you to open a bank account on behalf of the LLC – this should be signed by all of the LLC members)
Mistake #2: Failing to sign everything in the name of your new LLC
And I mean absolutely everything.
Question: What happens when you have an LLC and you sign a lease agreement/contract/loan etc in your own name?
Answer: Answer: you are personally 100% liability for the lease agreement/contract/loan and your LLC might as well not exist at all. You can avoid this nightmarish result simply by signing in the name of the LLC. Every. Single. Time.
Unless you sign on behalf of your LLC, i.e. sign as “Member” or “Manager” of the LLC, then you are signing for yourself and you will personally be on the hook for everything you sign. Always insist that anything you sign for your LLC be revised to show that you are signing for your LLC.
Sometimes, like with a loan or lease agreement, you won’t be able to just sign only in the name of the LLC. This is especially the case if you have a newer LLC without an established name and credit. No problem! In this case, I recommend that you offer to sign the loan or lease agreement in the name of the LLC, but include a personal guarantee. Any landlord or bank that has any experience working with businesses should have no problem with this. If they balk at your request, you should probably go somewhere else (or ask your attorney to help intervene).
Mistake #3: Choosing the wrong tax status
This is a topic that will warrant more details in future posts but one of the HUGE benefits of an LLC is that it can be taxed pretty well any way you want. Choose right and save big. Choose wrong and you’re just burning money. The kicker here is that choosing wrong includes failing to choose. Here’s what I mean.
If you don’t choose, the IRS chooses for you
If you don’t make a choice, then, by default, the IRS will tax your new LLC as a “disregarded entity” or partnership. This means that if you are the only one who owns the LLC (or it is husband/wife owned) then it will be taxed the same way as a sole proprietorship – all profits and losses flow completely through the LLC as if it didn’t exist. If your LLC has other owners (members) then this default taxation rule means that your LLC will be taxed as a partnership.
Corporate taxation can save you big
One of the really cool features of LLCs is that they can be taxed as a corporation simply by filing a one page IRS form. Taxation as a corporation (either a “C” corporation or “S” corporation) can, under the right circumstances, save you thousands of dollars a year in taxes.
Bottom line? Talk to your CPA or lawyer about what tax status you should choose for your LLC.
Mistake #4: Not getting local business licenses
If you operate your LLC in the city limits then chances are that you need a city business license. Some counties even require their own business licenses. Don’t overlook or ignore this requirement! Even if you operate a virtual business from your home and never see clients there, you technically need a business license. If you have ANY clients ever visit your office, whether it’s in your home or elsewhere, then you DEFINITELY need a business license.
My experience is that cities and counties are pretty easy to work with when you do things right and apply for a business license when required. However, if you don’t get one in the first place and get caught, they can make your life miserable. Not only do some city ordinances make it a misdemeanor (crime) to operate a business without a license, but the city can pile on fines, shut you down, subject you to a myriad zoning or other requirements if they feel like you’re trying to be a scofflaw. Not worth it!
Mistake #5: Failing to keep good records
Remember, your LLC isn’t tangible. The only evidence that it exists is in the records that you keep. Some of these records are required by law (like RCW 25.15.136 which dictates what records an LLC must keep at its principal office) others, like good financial records, will save the day if you want to apply for a business loan or line of credit or, if you have the misfortune of getting audited by the IRS or state tax authorities.
At a minimum, I recommend that you keep the following records:
- The records required by RCW 25.15.136
- Financial records using business accounting software (such as my personal favorite, Wave, which is FREE!)
- Regular financial reports (ideally quarterly profit/loss and balance sheets)
- Resolutions (a company record, signed by all the Members evidencing that a decision was approved) for all significant events and transactions like taking on a new Member, taking out a loan, buying a business or business’ assets,
Keeping good records and documentation is especially important if you want to sell or business one day. Without good records it is nearly impossible to even start the valuation process, not to mention actually sell your business. What’s worse, a business with non-existent records (or records that are a disaster) can be heavily discounted by potential buyers. So, keeping good records is a big part of building your business’ value over time so that it can be the significant part of your personal asset base that it should be.
There you have it. The top five new LLC mistakes you absolutely must avoid if you want to have a well-run LLC. Need help getting your LLC into tip top shape? Contact me and I’d be happy to help you figure it out. Go run your business. I’ll help you take care of the legal hassles.