So your friend is starting a new company, and you’re an accredited investor considering making an angel investment. You’ve heard about LLCS (limited liability companies) but aren’t sure if you need one to start angel investing. Here’s what you should know.
Understanding LLCs for angel investing
An LLC is a legal entity formed to operate a business or hold assets. LLCs can have a single owner (called a single-member LLC) or multiple owners (a multi-member LLC).
LLCs provide personal asset protection for owners by creating a legal separation between the LLC and their personal assets.
LLC owners are generally not personally responsible for company debts or lawsuits. Creditors can go after the LLC’s assets but not owners’ personal assets like bank accounts, cars, or homes.LLCs also allow owners to choose how they are taxed. By default, LLCs provide pass-through taxation where profits and losses pass through to owners’ personal tax returns. Alternatively, an LLC can elect to be taxed as a C corporation or S corporation.
Top reasons to form an LLC for angel investing
- Personal Asset Protection
Forming an LLC creates a liability shield between your angel investments and personal assets. This can give you peace of mind that your investment risks are contained within the LLC.
- Tax Benefits
With pass-through taxation, LLC profits are taxed at owners’ personal income tax rates, not corporate rates. Business-related expenses like meals and travel can be deducted against LLC income. With a single-member LLC, no separate tax filing is required.
- Flexibility
LLCs allow unlimited owners and transfer of ownership interests. This makes it easy to co-invest with others or sell part of your investment stake.
- Privacy and Branding
LLCs let you invest anonymously or under a brand name instead of using your personal name.
Unique considerations of LLCs for angel investing
Some angel investors use LLCs, but there are downsides:
- Costs – Fees to form and maintain an LLC.
- Administration – More record-keeping and tax paperwork.
- Tax Benefits – Usually no special tax advantages for passive investing.
Here are instances when an LLC makes sense for angel investing:
- Investing as a group – Keeps things organized and meets investment minimums.
- Preserving privacy – Keeps your name off cap tables.
- Building a brand – Invest under a consistent brand name.
- Foreign investors – May provide some benefits but talk to an advisor.
Note that investing as an LLC vs. individual doesn’t impact your ability to qualify for the Qualified Small Business Stock (QSBS) tax exemption.
How to form an LLC for angel investing
Forming a basic LLC is straightforward in most states. You file paperwork and pay a fee with your Secretary of State. Services like Stripe Atlas or Tailor Brands can automate the process.
For most angel investing, you probably don’t need an LLC. But if you want liability protection, privacy, or branding, an LLC provides flexibility. Talk to an advisor to decide if it’s right for you.