As of January 1, 2019, California law now allows so-called “cottage” food businesses to sell almost any kind of food to the public. Many of you are cheering and getting ready to get out and do what you love – cook and sell food. If you find yourself in this situation, then congratulations! However, there is one thing to consider: Should you run your business as an LLC?
You have many choices in setting up your food business, depending on your ultimate goals. You can do business as a Sole Proprietorship, a Partnership, a Corporation, or an LLC, among other options. Here, we are going to examine why you might seriously think about forming an LLC.
What is an LLC?
Under California law, an LLC stands for Limited Liability Company. There is a common misconception that the ‘C’ stands for Corporation, but it does not.
Characteristics of an LLC
For starters, an LLC can be formed by any number of owners. This means, especially in terms of a cottage food business, that any entity (husband and wife, siblings, or even a single person) can form the business. In this way, it is similar to other forms of business. It also means that there can be different classes of owners. This is especially important if you are working on soliciting capital for your business and can therefore name investors as a different type of owner (think common stock versus preferred stock as an example). For tax purposes, an LLC can choose to be taxed either as a corporation or as a partnership. Finally, and most important to many business owners, is that your liability is limited.
How is Liability Limited?
Very simply, if you are an owner of an LLC, your liability for debts and obligations of the business is limited to your investment. As an example, say you start your cottage food industry with your friend and you invest $25,000 each to get it off the ground. As time goes on, the business fails to thrive and you are left owing $100,000 to suppliers and restaurant wholesalers. If you formed a partnership, you would most likely be liable for the $100,000 you owe in addition to being out the initial investment less whatever you could recoup by selling off the assets. As an LLC, you would lose your initial investment but otherwise, liability would not extend to you personally.
What is the Biggest Disadvantage of an LLC?
The one glaring disadvantage of an LLC being treated as a partnership is that you automatically get hit with an $800 franchise tax every year. If you are working under the new cottage food industry law, you are limited by the law to only selling no more than $50,000 per year. An $800 tax is a fairly sizable investment and, for a small business, is clearly one factor that needs to be considered.
The type of business one should form depends of many factors. The cost and length of time it takes to form should be considered as well as potential liability exposure. At the end of the day, it is a complex decision that should not be entered into without all of the facts. The legal professionals at De Cardenas Law Group know the ins and outs of business law and can work with you to determine what the best route for your business is. If you are in San Francisco or Los Angeles and you need help choosing the right path to take, give us a call today at 626-577-6800 (LA) or 415-590-4869 or click here to set up your initial consultation. They are experienced in helping entrepreneurs make the right business decisions to achieve their goals.
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