LLC or C Corp for fundraising–what is the better choice for an entrepreneur? Starting a business can be a daunting task and there are different aspects you have to consider when launching a startup. Startup owners have a lot on their minds, and fundraising is one of their biggest concerns. The type of entity you register your startup as can have a major impact on how your business can raise funding.
Generally, there are two major types of entities that you can register your startup as. One is an LLC and the other is a C Corp, and both are different entities in the eyes of the law and the tax authorities (IRS). If you are trying to launch a startup, you have to choose the type of entity you want to form very carefully.
You may have to use different strategies if you form an LLC or C Corp for fundraising, not to mention that both of these business structures have their own pros and cons when it comes to operating. Since converting from one business structure to another can be challenging, it is best to pick the right structure at the start, so you can secure funding easily.
If you are trying to choose between an LLC and C Corp for your business’s structure and want to make sure you choose the right option from the fundraising standpoint, then keep reading.
This article will explain the fundamentals of both types of business structures and explain how fundraising is different for both the LLC and C Corp. By the end of this article, you should be able to know which business structure is a better option for you.
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What is an LLC?
LLC stands for Limited Liability Company, and these types of companies limit the liability of their owner. If any lawsuit or claim arises against an LLC, then the court can’t target the owner’s assets to settle the lawsuit. The assets of the owner are kept separate from their business in the case of an LLC. So in short an LLC gives its owners protection from business-related liabilities. However, the liability protection may not hold true in every scenario and there are situations where the owner may be held liable.
The LLC is most popular among small businesses with single owners or partnerships because they are easier to form, and the taxation is also simpler. All the profits generated by an LLC are reported as the owner’s personal income tax returns, so there is no double taxation involved with an LLC.
Since LLCs don’t have shareholders, they can not issue shares and the owners can hold a certain percentage of the company’s ownership.
When establishing your startup, choosing the right entity to register is just one of the aspects. For more information about what is a business model, check out this video I have created. You’re sure to find it helpful.
What is a C Corp?
A C Corp at its essence is a company that is owned by its many shareholders. Every shareholder holds shares in the stock, which represent ownership of the shareholder in the company. Since a C Corp can issue shares, it holds an advantage over an LLC in terms of fundraising.
C Corp is an ideal business structure for most startups and similar to an LLC, it protects the owners from liability towards the business. With that said, a C Corp requires a lot more paperwork, and governance, and has stricter legal requirements compared to an LLC.
When a business registers itself as a C Corp, it has to pay corporate taxes also known as double taxation. This means the members have to pay the taxes at the corporate level and the personal level. As mentioned earlier, an LLC doesn’t have to pay double taxes, and the business income is taxed as the personal income of the owner.
Choosing between LLC and C Corp as your business’s structure
Ok so now you know what LLC and C Corp are and how they differ from one another, it still isn’t enough for you to choose either business structure for your company. Of course, fundraising is an important consideration when forming a business, and we will discuss it in detail in the next section of the article. But before we get to work, there are a few additional key points to consider when you are choosing between an LLC or C Corp for fundraising:
Level of control
When you are forming your business as a single owner, the goal is to maintain control of the operations. Since an LLC doesn’t require a Board Of Directors to run the day-to-day operations, the owners can keep key decision-making to themselves. In addition, the roles of each member of an LLC are clearly defined in the operating agreement. So even if an LLC has multiple members, the founders can keep the key decision-making to themselves.
On the other hand, a C Corp has a Board of Directors that governs various matters of the company, including key decision-making related to the business. So the level of control in a C Corp is shared among the many shareholders of the company.
When you are choosing between an LLC or C Corp for fundraising, you should consider the level of control you want over your business before you choose.
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Level of complexity
The business structure you choose for your company can also affect the complexity of actually running the business. Generally, an LLC is much easier to form compared to a C Corp because you only have to register with your state government, file the articles of organization, and form an operating agreement between different members of the LLC. Once an LLC is created it can be maintained with basic record keeping as it doesn’t require complex paperwork and governance. On the other hand, registering as a C Corp can come with a host of complexities when you are registering your business with the state government.
To register as a C Corp you have to file your articles of incorporation, then you have to complete post-incorporation requirements including founder stock issuance, filling 83 (b), creating a board of directors, creating bylaws, and more. Not only will establishing a C Corp involve more complexity, but it also comes with more costs. In addition, maintaining a C Corp comes with complex paperwork and governance, which adds to the complexity of creating this type of company.
When choosing between an LLC or C Corp for fundraising you should consider the level of complexity involved with forming each type of company and the associated costs.
If you are considering LLC and C Corp as your business’s structure then chances are you want liability protection for your personal assets. One thing both LLC and C Corp hold in common is that they both can protect your assets in case a liability arises against the business.
Fundraising for an LLC vs. C Corp
Once you have considered all other important factors when choosing between an LLC or C Corp for fundraising, you can focus on the fundraising aspect of your business. However, securing investment can look very different for both of these business structures. While the capital requirements may be different for each business, the ability to secure capital can depend upon whether it is a C Corp or an LLC. So without further ado, here is what fundraising looks like for both types of companies:
Fundraising as a C Corp
When it comes to fundraising a C Corp can outshine an LLC due to one simple reason a C Corp can issue shares of its stock. The ability of a C Corp to issue shares means that investors find it convenient to invest in this company structure. Investors can simply get a certain amount of shares in a C Corp and the company gets the funds it needs to operate and grow. By offering company stock, a C Corp can raise a large amount of capital in a short period of time. In addition to the ability to offer stock in return for investment, a C Corp is also less risky for investors.
The double taxation that C Corps pass through is also a factor that makes them attractive to investors. An investor will rarely want to invest in a company that reports its profits and losses through the owner’s individual income tax. They prefer to invest in one that reports its income and losses as an entity. If a non-C Corp business reaches out to an investor for investment, the investor may request the business to first convert to C Corp before they can receive investment. So in short, forming a C Corp increases your chances of securing investment as fundraising is simpler for a C Corp.
Fundraising as an LLC
When an LLC tries to raise funds by seeking investment from investors, they face a fundamental challenge in the form of a lack of shares to offer. Unlike a C Corp, an LLC can’t simply offer shares in exchange for capital. Now, it is possible that an LLC may give equity to investors in return for investment. However, in order for the investor to receive the said equity, they will have to become a member of the LLC. Becoming a member of an LLC involves getting added to the articles of the organization, and most investors would not want that.
There is another major barrier for investors when they want to invest in an LLC. As mentioned in the previous section, an investor will have to perform plenty of due diligence if they want to invest in an LLC. Because, unlike a C Corp, an LLC can’t be valued based on its share price. So investors have to put in more time and research to figure out if they are investing in a business that is actually worth what the owners claim it to be.
The bottom line is if you are a startup that has enough capital on hand to start and run your business, an LLC may be a good option for you. However, if you are looking to raise funds and plan on seeking investment, then C Corp is a better option. Especially if you have big plans for growing your company, or eventually taking it public. So, take the time to understand how forming an LLC or C Corp for fundraising works.
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How can you convert an LLC into a C Corp?
If you are an LLC struggling to get investment then chances are you might want to convert your LLC to a C Corp. There are two ways you can go about converting an LLC to C Corp, here’s how they work:
Statutory conversion is the easiest way to convert an LLC to a C Corp, and it involves transferring the assets and liabilities of the LLC to a C Corp without dissolving the company. Once a statutory conversion is successfully complete, the members of an LLC become shareholders in the newly formed C Corp.
With that said, a statutory conversion may not be an option in every state, so you have to make sure your state allows this conversion.
If the statutory conversion is not an option due to state-specific restrictions, then a statutory merger can be used to convert an LLC to a C Corp. During a statutory merger, a new C Corp is formed and the former members of the LLC become shareholders of the newly formed corporation.
Once the members of the LLC have become shareholders of the new C Corp, the LLC is dissolved and the C Corp can start its operations.
Fundraising has always been a major consideration for startups, and without enough investment, it can be difficult to meet the company’s expenses during the period following its formation. Even though an LLC is easier to form, it is not always necessarily the best option for startups looking to raise funds because of many barriers for investors. Now that you know how an LLC or C Corp for fundraising works, you should be able to make a more informed decision when structuring your business.
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