LLCs - Common Misconceptions

As a CPA, it can be hard to scroll through Facebook Reels or Tik-Tok feeds and see a lot of the (possibly) well intentioned advice for entrepreneurs starting their first LLC. Dispelling bad advice is one of the things I enjoy most. I chose this career to help people with their accounting and their tax strategy.

The IRS doesn't care where you got the information from, neither do the courts, and as a business owner you're expected to do due diligence to ensure compliance. That's why you hire a professional, to help you navigate the complex tax and accounting rules so you can focus on running your business. Let's clear up some of the most common myths I see about LLCs.

Myth #1 - "I have an LLC so I am protected from personal liability."

This is only partially true. For many new businesses any extension of credit requires a personal guarantee. That guarantee allows the bank to go after you and your personal assets to settle business debts, LLC or no LLC. If you're not reading the fine print, you may mistakenly think the debt disappears with the closure of the business. For legal liability certain acts can provide an argument to allow a court to disregard the LLC separation, usually referred to as "piercing the corporate veil." These include mixing of business and personal finances and failure to maintain accurate records to support the separation. In essence if you can't defend that you and the business are separate entities, the courts may have ground to not treat you as such.

Myth #2 - "My spouse and I started an LLC so we can report all the activity on our personal income tax return."

You can google this and Gemini or Chat GPT will tell you about a provision known as a "qualified joint venture" where a husband and wife partnership will allow each spouse to report half of the business activity on Schedule C of their income tax return rather than being required to file a separate partnership income tax return. However, if the entity is created under state law, for example, an LLC, then the QJV provisions do not apply and the entity, as a multi-owner LLC must file a partnership tax return.

Myth #3 - "I created an LLC to save me money on my taxes."

When you have a single-member LLC, it is considered a disregarded entity for tax purposes. In the eyes of the IRS it doesn't exist even though they may have assigned you a tax ID number. People who employ the LLC to perform services will still request a W-9, you'll still be issued 1099s, and even if you aren't you're still required to report all of your earnings on Schedule C of your income tax return, or Sch E in the case of rentals and royalties. When it comes to business expenses, the IRS will look to substance over form. If you have one vehicle and you use it for both personal and business purposes the IRS won't care that the vehicle is in the LLCs name or that you had it wrapped with your business logo. They will request mileage logs to substantiate the deductible business use, and if you don't have them they will disallow the deductions. There is very little if any tax effect to operating as an LLC with the exception of the ability to make a S-Corp election which is beyond the scope of this post.

Myth #4 - "I created an LLC so I don't need insurance, the LLC protects me."

Depending on your revenue, and line of business you may be at low risk for needing insurance however the formation of an LLC should not be the determining factor in that decision. As discussed in Myth #2 there are ways for a plaintiff to pierce the corporate veil and come after your assets, especially if gross negligence or a violation of state or federal law was involved in the incident. Even if you are not personally held at fault, you do run the risk of losing the LLC's assets which you work hard to grow. You don't want to risk losing your business over claims you can't afford to pay which is why even with an LLC formation, you still may want to look into general liability or errors & omissions insurance to protect both you and the business.

While registering for an LLC is a great way to provide some protection for yourself, create a level of separation between yourself and the business, and show your clients that you have a level of professionalism, it's important that you understand all of the relevant information before deciding how to structure your business.

Be sure to do your research before making business structure decisions and don't be afraid to reach out to your CPA for the tax consequences or a lawyer that specializes in business law for input before you make a decision. Creating an LLC is generally not complex for a single owner, and you typically don't need to pay excessive fees when creating one, but you should have a firm grasp of what an LLC does and doesn't do for your business. If you have multiple partners, multiple entities, or other complicating factors it may be prudent to hire an attorney who can assist you in drafting operating agreements and select the entity type that's right for your business.

This information is purely for informational purposes and shouldn't be construed as legal advice. If you have further questions about your business see, our contact information and I can happily answer tax and accounting questions or direct you to local attorneys for legal questions.