What is an LLC?
The first step in buying an LLC is knowing what it is. A limited liability company, or LLC, protects its owners against debt or liability. The owners are then not personally responsible for these costs.
These corporations are different from one state to another. However, some general aspects are the same, such as the fact that members (or owners) can be:
- Foreign entities
- Other LLCs
A limited liability company offers many characteristics of both a corporation and a general partnership or sole proprietorship.
The structure of an LLC is such that the company is responsible for all debts or losses. At the same time, the owners reap the benefits of forming a partnership. This is done through the articles of organization and is vital for purchasing an already existing LLC.
Here is an article about what an LLC is and how it works.
Steps to Buying an LLC
Buying an LLC is relatively simple and can be done in five steps. These include:
- Step 1: Identify the LLC for purchase.
- Step 2: Set up the basics of the purchase.
- Step 3: Do your due diligence.
- Step 4: Draft a purchase agreement.
- Step 5: Close.
Identify the LLC for Purchase
You will want to look at different LLCs available for purchase to determine which you are interested in. Make sure you understand things like who will operate it, finance it, and the long-term viability of the investment. You will also need to make sure the owners are interested in selling.
If the LLC you want is unavailable or uninterested in selling, you will need to start your search again. If it is available, you can move on to the next step.
Set Up the Basics of the Purchase
Working with an attorney, you will want to establish the overall framework for the purchase. First, you need to decide if you are buying the assets of the LLC or if you are purchasing the entity. This will let you know whether you need an asset purchase agreement or a business purchase agreement.
You will need to include much information on a terms sheet, including:
- Purchase price
- Structure of the deal
- Length and extent of allowed due diligence
- Timing and method of payment
- Closing date
- Voting rights after closing
- Contractual provisions
Do Your Due Diligence
Never purchase without doing your due diligence and looking into the LLC and current owners. This includes looking at the operating agreement or articles of organization. These documents will show you any past problems with the LLC. Your attorney can assist you in reviewing the assets, liabilities, finances, and information on any documents you need.
Due diligence includes looking at:
- Employee contracts
- Business contracts
- Real estate contracts
- Equipment leases
- Financial statements
- Financial health
It is also important to look into any buy and sell agreements that may exist, making specific requirements based on owners or partners leaving the company or selling out.
Draft a Purchase Agreement
Your attorney and the attorney for the seller will need to create a purchase agreement. Several additional contracts are necessary to consider, including a business purchase agreement and an asset purchase agreement.
A membership-interest purchase agreement allows the buyer to purchase only a portion of equity rather than the full LLC. In contrast, a full purchase agreement allows the sale of the LLC entirely.
An asset purchase agreement includes only the sale of the company’s assets without purchasing the entire company.
Drafting a business transfer agreement and closing checklist is part of this process. Also, it is essential to note whether you are working with a multi-member LLC or a single-member LLC. You will also need to consider whether you are buying out only a single member's share or the entire LLC. Both of these may require approval from the other members.
At closing, all documents and steps are finalized so that the ownership transfers to the buyer. Depending on the type of purchase, this could be the full LLC, the assets of the LLC, or a specific equity stake in the LLC.
An attorney should preside over the closing to ensure all processes are completed and filed legally.
Here is an article about the process of buying an LLC.
Tax Implications from Buying an LLC
There are two different types of LLC’s and this will affect how taxes are done on the LLC.
A single-owner LLC is treated as a sole proprietorship when it comes to taxes. As such, the LLC cannot file a return with the IRS and is not required to pay taxes. Instead, the owner of the LLC is required to put the company on their personal taxes.
Having an LLC on your taxes means you must report profits and losses through a Schedule C. This can benefit owners. Still, it can also be a tax liability.
For example, if you choose not to take out your LLC’s profits at the end of the year but instead leave them for financial needs in the future, this does not excuse you from paying taxes on the income.
For a multi-owner LLC, the company is treated as a partnership. These LLCs also do not pay taxes or file a return with the IRS; however, the process of claiming profits and losses is slightly different.
With a multi-owner LLC, the owners are required to pay tax on their share of the profits or losses of the corporation. This is calculated based on each owner’s ownership stake or shares within the corporation.
The profits or losses are then reported on the member’s individual tax return.
Here is an article about tax obligations for LLCs.
Legal Documents Needed for Buying an LLC
When purchasing an LLC, many different legal documents are required. These include:
- Accounting books/ledgers
- Tax returns
- LLC operating agreement
- LLC articles of organization
- Employment agreements
- Vendor agreements
- Business licenses
- Property tax obligations
By looking at each of these legal documents, you will be able to see the current financial position of the LLC and determine whether it is a good investment. An LLC with a large amount of debt and no assets is generally not a sound business investment. The inverse is also true.
By reviewing all of these legal documents, it is possible to make a better financial decision. Reviewing these documents with an attorney is generally your best option. It will help you understand any of the legal ramifications of the documents.
Any LLC that is looking to sell should provide you with these documents. If they do not, you should do your due diligence to locate them independently.
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