A variety of circumstances can force you to convert your business to a different business category. This guide covers all possible conversions of business categories into each other and their consequences.
How To Convert A Sole Proprietorship To An LLC
An LLC business structure offers more security to your business than a sole proprietorship, and once you have weighed your options and want to convert your business into an LLC, this is your guide to follow.
- Get a unique name
While you can have any name for a sole proprietorship, you would need to have a unique name for an LLC. You can choose a unique name and confirm its availability from your secretary of the state office of your state. It is also imperative that the title you have chosen for your LLC doesn’t infringe the trademark of any other LLC, and you can confirm it from the United States Patent and Trademark Office’s database.
- Articles of organization
Filing the articles of organization is the first actual step towards converting your sole proprietorship into an LLC. Every state has different requirements for articles of organization, and you are provided with a form from the secretary of state to file your articles of organization. Articles of organization list out all the essential information of the LLC, and it also appoints a registered agent for your LLC who is responsible for all the paperwork for your LLC. Usually, the fee for submission of articles of organization for an LLC is $100.
- Operating agreement
After you have filed the articles of organization of your LLC, it is time to draft the operating agreement of your LLC. An operating agreement maps out the ownership and management of your operation. An operating agreement will help you in making decisions in the future about your LLC.
- Business bank account and other requirements
After you have filed your articles of organization and have mapped out the operating agreement, you’re almost ready to take off. Few last steps before you can announce your LLC are registering your business bank account, getting required licenses and permits, and understand your tax requirements. After completing these steps, your LLC is officially registered now, and you can start your venture.
How To Convert An LLC To An S Corp
It is most commonly done to reduce federal taxation burdens. As the income from your LLC increases, so does the self-employment tax. While you are paying more taxes, your requirement for contributing to a retirement account does not change. This takes a tremendous toll on the profits, and it is where converting your LLC into an S Corp comes into play.
The process of converting your LLC to an S Corp is not as complicated as it may first seem. All you need to do is make an election for your LLC to be taxed as a Corp. It will require you to fill out the election form and submit it to IRS. Once your LLC is federally classified as a corporation, you can fill out form 2553 to be taxed as an S corp.
It is essential to know here that while you are choosing your LLC to be taxed as an S Corp, you are not converting the entity type, and it would still be considered an LLC in federal records. Some states do allow to convert the entity type from an LLC to a corporation. It could either require some formal conversion process or a complete workaround. You can contact the secretary of the state office of your state to find more about it.
How To Convert An S Corp To An LLC
It is another essential and common conversion, especially when your business is at a smaller scale. While both LLC and corporations offer limited liability protection, an LLC offers additional benefits of very simplified operations and flexibility regarding tax liability.
The legal aspects of converting your S Corp to an LLC are not overwhelming, and they can be started by having a vote about this conversion in the directors’ meeting. If the majority of stockholders vote for this conversion, you can officially begin with this conversion.
Depending upon the state where your corporation is located, you would need a conversion plan. Some states may require a conversion form, while other states may require you to form a new LLC and then merge your corporation into the newly-formed LLC. However, you should be very careful in this conversion and seek professionals’ help as minor mistakes can have more considerable tax consequences.
How To Convert An LLC To A C Corp
If you want to raise the capital or want to make the process of offering employees’ equity easier, converting your LLC to a C Corp can be very helpful. However, you have to weigh other options before you proceed with the conversion. For example, an LLC offers a lot better taxation structure than a C Corp, where you will be under double taxation.
There are two ways to convert your LLC to a C Corp – A statutory merger and statutory conversion. The method you choose/are required to select will depend upon your business’s state.
- Statutory conversion
It involves drafting a conversion plan, getting it approved from the members of your LLC, and filing for conversion. You should also consult with the operating agreement of your LLC, and if it has the conversion plan outlined, it will make the entire process easier and simpler for you.
- Statutory merger
It is a slightly tricky process, and you should only opt for it if your state doesn’t offer statutory conversion. In this case, you would first have to file for a separate corporation. Once it is formed, you can then merge your LLC into it to dissolve it permanently.
How To Convert A C Corp To An LLC
The majority of small business owners looking to make the taxation simpler and want to protect their assets opt to convert their C Corporations into limited liability companies. While you will need to follow the laws of your state to convert your C Corp into an LLC, the majority of the states do not allow this conversion, and you would need to dissolve your corporation and form an LLC from scratch.
In the limited states where this conversion is allowed, there are still high stakes involved. For example, converting your C Corp to an LLC will require you to transfer the retained earnings and assets from corporation to an LLC, and it is a highly costly process. You can further consult the secretary of the state office of your state to know more about whether your state offers this conversion.
While there are situations where you are not left with any order option but to convert the nature of your business entity, the conversion process always involves a lot of legalese and technicalities, and seeking the help of professionals can help you save time, effort, and money.
Frequently Asked Questions
In this section I’ll go over some of the frequently asked questions I get regarding the conversions of legal entities.
- Can a corporation merge into an LLC?
While an S Corp can easily be merged into an LLC, it is slightly more technical when the case is about the C Corps. The majority of states allow the conversions of S Corps into an LLC and don’t let the conversion of C Corps into an LLC. You can check the laws of your state regarding transformation from the secretary of the state office of your condition.
- Can an S Corp transfer assets to an LLC?
Yes, the transfer of assets of an S Corp is the primary step when you are converting your S Corp into an LLC. On top of assets, you can also transfer the retained earnings of your S Corp into an LLC.
- Do corporations pay more taxes than LLC?
It entirely depends upon how big your corporation is, and then you can compare the payable taxes on an LLC against the corporation. Generally, in the corporations, distributors end up paying taxes twice, I.e., on the shareholder and corporate levels. So, overall, corporations are a more extravagant option when it comes to taxation.
