# LLC Formation questions (California)



## NoamL (Feb 27, 2020)

Hi all,

I've been an assistant writer on a 1099 (Freelancer) basis up to this point, but I need to start my own single-member LLC this year. Got some questions for all of you who are more advanced in your careers if you would be so kind 

1. Do I need the help of a business formation company (e.g. LegalZoom) to do this, or is it something people typically do all by themselves?

2. Is there anything special I need to be aware of in forming a music/entertainment LLC?

3. What is the most advantageous way to regularly pay yourself out of the LLC and minimize taxes? As a 1099, self-employment tax was a doozy last year. Is it possible to calculate a break-even point where the tax advantages of LLC start paying off?

4. If you are owed royalties from your work, do you set up royalties to go to yourself personally or to your LLC? Is the latter even possible?

*Thanks in advance* everyone!


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## Dewdman42 (Feb 27, 2020)

I have formed several LLC's, none related to music business...I always use a legal professional. You can do it yourself a number of ways for extremely cheap or even for free! But I feel it was worth whatever legal advice I got for the hour I talked to the legal pro and the hour or two more they spent writing up everything for it. You can find out a lot of information all over the place about how to do it yourself. If you were making a new LLC every other week, that might be tempting, but in a case where you are going to set it up once and that is probably it, I feel its worth every penny to get an LLC legal pro to help you and pay them for their time to do it right. 

A few other points...


Typically an LLC is a pass through entity. That means in terms of taxes its not much different then a sole proprietorship. All costs and earnings pass directly through to the members. In terms of setting up yourself on a payroll...that is typical not done for something this small. If you have a CPA, talk to him/her about this too.


You don't get any magical tax advantages having an LLC. All the earnings still pass through to you indirectly, you just have to file a few extra forms that isolate the earnings of your business from your own personal life, but in the end it will combines into your personal tax return. Your LLC will receive the same 1099 you received this time...it just will go to your LLC and eventually to you.
Mainly the the purpose of an LLC is protect your privacy. Privacy can equate to asset protection in some cases. If you are partnering with other people together into an LLC, then that can also make a lot of sense.

If you care about that, then there are costs and paperwork involved every year with having an LLC, and virtually no tax savings that I can think of right now.


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## Mike Greene (Feb 27, 2020)

I've used Incorporate Fast and Swyft Filngs to make LLC's for Realitone and VI-Control. Both seemed fine, but I imagine all these companies are pretty much the same. It looks like Swyft charged me $369, and I think Incorporate Fast charged me $234, although that one was way back in 2008. (I actually believed I'd be releasing products that year. Over-optimistic much? Realivox Ladies wasn't released until 2012.)

My accountant later convinced me to make Realitone a corporation. I can't remember the reasons why, other than he wanted to make an extra $1,500 off of me. I'm such a sucker sometimes. An online service would have been way cheaper, although there is a lot to be said for having someone you ask questions to, especially regarding which things will or won't likely trigger an audit. I'm a tightwad, but in this case, I think this was the right decision.

I'm not saying you should incorporate, but I think there are advantages to a corporation over an LLC when income gets above a couple hundred grand. I _think_ (someone please correct me if I'm wrong) that if an LLC makes over $250k, then they pay more than the usual $800/year to the state, whereas corporations always pay the same $800/year. Don't quote me on that.

For corporations, there are some bookkeeping annoyances and you're supposed to do a yearly "meeting" and stuff. Hopefully no one ever checks whether we actually do that ...

For LLC's, you need to choose between C and S. I can't remember which is which, but I prefer the one where the LLC pays its own corporate taxes separately, as opposed to the passthrough version that Dewdman mentioned. That way, when the corporation pays you, it's not considered employee income (I think it's considered dividends?), so there is no self-employment tax. Mind you, filing those corporate taxes is another accounting expense, so take that into account.

My wife is part owner of Realitone Inc., by the way. There are advantages to that, because when we took trips to the Galapagos and to Africa so that I, or rather, so that _we_ could record sounds for our upcoming Sounds of Africa and Sounds of the Galapagos libraries, both our trips were tax deductible. (Yes, I'm serious. Forget strings, we've been bombarded by requests for a library with blue-footed boobie sounds! The lengths we'll go to to please our customers...we're also recording a Sounds of Alaska library in May.) I think that's also possible with an LLC, so when you create it, it might not hurt to add your spouse as an owner. (I would consult someone who actually knows what they're talking about, as opposed to me, by the way.)

Regarding royalties, I'm not sure whether ASCAP will pay an LLC or corporation. However, "royalties" is a separate line on your 1040, and is not subject to self-employment tax. Mind you, I'm not your accountant, and there is some dispute about whether music royalties are the same as oil royalties (which is what that line was originally intended for), but ... well, that's as much as I'll say on the subject. 

One other thing to consider - If you're in Los Angeles and filing city business tax (they'll fine the heck out of you if you aren't - deadline is this coming Monday), then you qualify for a $300k Creative Arts exemption, so you'd pay no city tax. I'm not sure if an LLC can claim that exemption (I kinda think you can, but I'm not sure), so you _might_ lose that exemption if you're an LLC or corporation. That tax isn't much, mind you (well under 1%), but it might be something to factor in.


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## Dewdman42 (Feb 27, 2020)

C Corp is the one that is more of a fully separate corporation with its own isolated corporate taxes, etc. There is a lot of overhead associated with a C Corp and most professionals will probably discourage against doing it unless there is a legitimate business need for it (or they are looking to generate fees for themself). Also, its not hard to end up in a double taxation situation where the sole proprietor is paying corp taxes for the C corp and then paying income taxes for the salary they are taking. It gets a LOT more complicated with that setup, so definitely plan to pay professionals if you decide to do that. C Corps are more relevant when you have a legitimate company with multiple employees or a need to ENTIRELY isolate your personal assets from the business so that no matter what happens to the business nobody can come after your personal assets, etc. 

S Corps, are very similar to LLC's, they are essentially pass through entities also...but there are some slight differences between S corp and LLC, I can't remember what they are now...But when I was going through all this I was steered by the professionals towards an LLC, for what i was doing. The music business was not what I was doing and might be very different. 

I can't speak for CA tax law, but my LLC was definitely generating more than $250k a year and there wasn't any extra tax extra generated for me anywhere other then rising income tax rate brackets of course. 

For an LLC, technically, you should be doing a yearly meeting also, especially if there are partners, but its more of a technicality, nobody was keeping track and I never did. Basically if someone decides they want to sue your LLC, their attorney will try to search for how much money is available to collect. They will look for assets owned by the entity they want to sue. If you have "MusicRUS" as your LLC, then the attorney will try to find out what assets are owned. Generally that means they need to find out who the members are in order to see if any members have tons of other money they can go after, to see if its even worth pursuing a law suit. Well that information is, at least initially, sealed up inside LLC documents they aren't allowed to see. But they can try to get a court to crack open the LLC documents and reveal who the members are. If they can convince a court to do that then the members will all be exposed, and all their assets exposed as being up for grabs...because its a pass through entity. So the way to try to stop them from being able to crack open to find out who the members are, you basically need to have your LLC operating agreement in order with logs of your "annual meetings". The more in order it appears to be, the less ability the court has to force it to be cracked open and find out who the members are. So that is the limited protection that an LLC provides.

I suspect an S corp is similar...

A C corp would justifiably have more requirements for more paperwork, perhaps a lot more. The main advantage of C Corp is that the assets of the members are completely isolated from the corporation itself. The members are mearly stock holders and nobody can get their personal assets if they find a reason to sue the company. 

A CPA may be able to come up with some reasons why a C Corp might work out better in some cases in terms of taxes, but my understanding at the time was that in many cases for small businesses, it could resort in even more taxes...because both the corp and the employees have to pay taxes. But you get much better asset protection over your personal assets if that is something that could be at risk.


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## gsilbers (Feb 27, 2020)

whats mentioned above is more than enough info i think. 
you might be asking due to the new CA law AB5? 
that might have different implications like thinking an LLC will let poeple off the hook from being an indie contractor. 
but its still an ongoing thing and everyone is confused as hell. 

as others mentioned: 
the llc is mainly for legal protection. not much going on tax wise. i think if you surpase certain threhold of income then s-corp is better but for simple llc stuff the pass through is fine. but in general, there arent any real advantages of llc tax wise for individuals. 


the main issue with llc is making sure you remeber to do certain thing every year. and poeple forget all the time. you also need a registered agent. legalzoom is very expesive for that. but fot doing the llc is fine. so choose a different regstered agent. 
they algo have a calendar with things to file. but every year its the $800 tax. plus los angeles tax and better regester pronto like mike said. i got hit with a penalty and dealing w it was not cool. los angeles tax dept is very aggressive in finding out stuff about you. 

llc is basically pretending you are a business. so you nned to have all of those silly things like meetings, confirm address every year or two by sending paper work. maybe business licenses. DBAs etc. and not use your name on the llc. (your name LLC). 

and filing a separate tax form (k1) which an accountant will charge about $300-500. so basically look at $1000-1200 spent on extra paymets to run the llc yearly. ($800 tax+ $300 k1) 

for composers there is also the EO insurance. errors and omission might be a little too expensive. 
there is also the musicpro insurance which covers studio music stuff.


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## Mike Greene (Feb 27, 2020)

Dewdman42 said:


> A CPA may be able to come up with some reasons why a C Corp might work out better in some cases in terms of taxes...


I think the advantage is that the income shows up on your personal tax form as capital gains from the corporation, as opposed to wages, so the rate, especially when you subtract SE tax, is much lower.

It's a tricky game, though. For Realitone Inc, I have to make sure there is close to $0 in the bank accounts at the end of the year, so that Realitone can claim (close to) no profit and therefore pay no taxes. (Double-checking now, Realitone paid $0 for 2018 and 2017.)

Otherwise, if Realitone had a positive balance at the end of the year, I would indeed get taxed twice - once for profits that Realitone made and still had on the books, and the next year when Realitone paid those profits to me. That would be bad, so it's important that Realitone pass all that money to me by December 31st.

So during the year, Realitone unloads those pesky profits (measly as they may be) onto me. I get money from Realitone in two ways:

1. Realitone pays part of it's profits to me as a dividend (I think that's the term?), which goes on my personal tax form (1040) as capital gains, which is lower than the rate I pay for normal W-2 stuff. That's the first tax advantage. The second tax advantage of this is that these dividends are not subject to self-employment tax, which is a killer.

2. My accountant says that if all my money comes as dividends, the IRS will get suspicious, so I also have to pay myself (and my wife) as employees. For this portion, there is no tax advantage.

I think with a pass through situation, everything gets taxed as if it were wages and is also subject to self-employment tax. At least that's my understanding, which could definitely be wrong.


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## NoamL (Feb 27, 2020)

Indeed, AB5 is part of the calculus here. Thanks very much for all the replies so far. Still mulling this over! As far as income goes, mine is definitely under 100k/yr and probably won't exceed that for a few more years. Who knows though


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## NoamL (Feb 27, 2020)

oh, and as a sole proprietorship I've had a LA business number for a few years now, each time taking the creative arts exemption for zero tax. I suppose that number would have to be transferred or a new LA biz created for the LLC.


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## sbarrettmusic (Feb 27, 2020)

I would recommend getting a CPA if you don't already have one and get their advice based on your situation. It's well worth the cost having someone who keeps up with the constant changing tax laws and is knowledgable about working in the music industry and can get you the best tax savings.

I am also in California and get a lot of 1099 income through orchestration work. My CPA advised me to set up an S Corp because it would give me a lot of tax advantages by lowering my personal income and being able to write off more expenses. I set up the S Corp through LegalZoom, which I remember being really easy and cheap/free (you don't need any of the extra stuff they try to sell you). So far it has been extremely worth it come tax time. My CPA works with my entire team and other music professionals, so he knows the ins and outs of the business. I can refer you if you are interested, he is in South Pasadena.


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## C.R. Rivera (Feb 27, 2020)

Dewdman42 said:


> "You don't get any magical tax advantages having an LLC."



Pardon the interruption, but is that true if you use Delaware for your LLC?


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## gsilbers (Feb 27, 2020)

C.R. Rivera said:


> Pardon the interruption, but is that true if you use Delaware for your LLC?



delaware only advatange is the privacy. not tax. 
you dont have to disclose you name in delaware llc like you do in most states.


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## jonathanparham (Feb 27, 2020)

sbarrettmusic said:


> I am also in California and get a lot of 1099 income through orchestration work. My CPA advised me to set up an S Corp because it would give me a lot of tax advantages by lowering my personal income and being able to write off more expenses.


Was talking about it this in another thread. But this is one of the main reasons. I've seen a lot of musicians and filmmakers get thousands in 1099 and that is UNTAXED. Come march of the following year, you'll be paying through the nose imo.

your #3 I would advise setting up an online payroll service OR getting a CPA or formal payroll service. I personally use Paychex. When I'm on a project, my client writes money to my company (S corp), I then authorize a check to myself as an Individual. You can ask for advice but I would start with a check to yourself say twice a month. The advantage is as sbarrett says, you lower what the IRS sees as income.


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## sbarrettmusic (Feb 27, 2020)

jonathanparham said:


> Was talking about it this in another thread. But this is one of the main reasons. I've seen a lot of musicians and filmmakers get thousands in 1099 and that is UNTAXED. Come march of the following year, you'll be paying through the nose imo.


Indeed, I was definitely paying through the nose. Now I get a refund


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## jonathanparham (Feb 27, 2020)

sbarrettmusic said:


> Indeed, I was definitely paying through the nose. Now I get a refund


I was talking to a Pro Tools Operator on an episodic and when he told me what he paid in taxes after being 1099'd I about died.


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## dzilizzi (Feb 27, 2020)

This is what I remember from when I researched this and worked in the tax field. Its been a while but the basics shouldn't have changed much.

C-Corp has shareholders, requires an annual meeting and pays tax on any profit. You can be an employee of the C-Corp and get a W2 that has taxes taken out including social security. Generally, as an employer, the C-Corp can pay your insurance and other business expenses as well as allow you to pay into a 401K up to about $19k per year. Dividends are paid out of the profits after taxes are paid. So their is double taxation on the dividends.

S-Corp is a small corporation with less than 35 members that is treated simularly to a partnership for tax purposes. It also requires an annual meeting. Net income after corporate expenses flow to Schedule E. Its been a while since I've done taxes, so I believe you can be an employee as well and have social security paid, 401K, insurance, etc.... Normally, Schedule E income is not subject to self employment taxes. But you also don't get credit for social security either. The state usually charges a flat rate of $800 per year in tax for flow through entities unless your income hits a certain level. THis is mostly because the individuals pay tax on the net income. Whether or not they get it. 

An LLC is a state designation in that the Federal government does not recognize as an entity and you have to file as either a sole proprietorship or a partnership for Federal tax purposes depending on the number of members. The state also charges $800, unless it has changed. Although other states are cheaper, you still have to register with California if you do business here, so you end up not saving any money. Also requires an annual meeting. You can be an employee but only if you file as a partnership for federal purposes. Partnership flows through the Schedule E, sole proprietorship is Schedule C, subject to self-employment tax. 

I think that is about all I can remember. It's best to get someone in California to set up whatever you choose as the laws vary from state to state. You could end up in trouble if it is not set up right. And? The only reason to really do it is for liability protection. But if you don't keep everything properly separate, do the annual meetings and properly file tax returns, the protection disappears.


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## Mike Greene (Feb 27, 2020)

I checked and Realitone is an S-Corp. I get paid some money by Realitone as an employee, but the bulk of the money Realitone pays me is in the form of a "distribution." Realitone send me a Schedule K, and that amount gets entered somewhere on my personal 1040, and is taxed at the capital gains rate, no self-employment tax.

Noam, as I keep thinking about this, I would strongly recommend talking to an expert, because unless I'm mistaken (and I definitely could be!), then some quick napkin math tells me that if you make $50k and run it through a corporation, and then that corporation pays you personally through a distribution or dividend (rather than as an employee), then that distribution is not subject to self-employment tax. So you would save about seven grand. Per year. I could be way off on this, of course, but I think it's worth looking into.


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## wolf (Feb 28, 2020)

Mike, you're correct - for the most part. One important point: the S-Corp has to pay you a "reasonable salary" - basically something close to an industry average. I use online job data to determine this.

so if OP makes $50k - say as a part time assistant writer - probably 25K should be salary. (that's a total guesstimate and depends on details like hours worked, the specific work done) 

Also: health insurance premiums become deductible at the corporate level (again, saves on FICA); so are part of retirement contributions (I use a solo 401k).
Businesses (corporations) often prefer to do business with other corporations because it simplifies some of the paperwork (so I was told). It also makes the distinction between contractor and employee more obvious (or at least it used to, as gsilbers already pointed out).

as for registering outside of California. I briefly looked into this. bottom line: for all the work that is done here in Ca, you have to pay taxes in Ca. So unless you have other legal reasons, there is no benefit to incorporating outside of Ca, just extra costs and potential hassle (like filing 2 state tax returns).

finally: the boogie man of double taxation - the main argument against forming a C-Corp. My understanding is: if you're a small company (like a single person corp), you just don't ever pay yourself dividends (where double taxation applies) but pay yourself bonuses instead. The big downside though is that bonuses are subject to FICA, whereas distributions of an S-Corp are not (as already stated by others above). So in my view, and S-Corp is the best solution. Of course you have to consider the details of your situation. There is slightly more paperwork than with an LLC - especially payroll. But once you got the hang of it, it's easily doable for one person.


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## Mike Greene (Feb 28, 2020)

wolf said:


> One important point: the S-Corp has to pay you a "reasonable salary" - basically something close to an industry average. I use online job data to determine this.
> 
> so if OP makes $50k - say as a part time assistant writer - probably 25K should be salary. (that's a total guesstimate and depends on details like hours worked, the specific work done)


I say less than that. Way less. I mean ... have you heard NoamL's music???





wolf said:


> Also: health insurance premiums become deductible at the corporate level (again, saves on FICA); so are part of retirement contributions (I use a solo 401k).


That's a good idea. For our personal taxes, health premiums are not 100% deductible because they do some sliding scale thing. But at the corporate level, I assume they'd be 100% deductible.



wolf said:


> Businesses (corporations) often prefer to do business with other corporations because it simplifies some of the paperwork (so I was told). It also makes the distinction between contractor and employee more obvious (or at least it used to, as gsilbers already pointed out).


I think one reason might be that if you hire a corporation, you don't have to send them a 1099, while with LLC's or regular people, you do. I guess they figure corporations are some sort of honor system.



wolf said:


> finally: the boogie man of double taxation - the main argument against forming a C-Corp. My understanding is: if you're a small company (like a single person corp), you just don't ever pay yourself dividends (where double taxation applies) but pay yourself bonuses instead. The big downside though is that bonuses are subject to FICA, whereas distributions of an S-Corp are not (as already stated by others above). So in my view, and S-Corp is the best solution.


Ah, now I understand. Good thing my accountant did this instead of me, because I would have chosen C-Corp, because it would have made me feel more like a big shot.


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## C.R. Rivera (Feb 28, 2020)

gsilbers said:


> delaware only advatange is the privacy. not tax.
> you dont have to disclose you name in delaware llc like you do in most states.


Then, is this now no longer effective, if you are outside of Delaware and form a LLC there?

"What about Delaware state tax? It offers three big advantages for out-of-state businesses organized as Delaware LLCs:

*No [state] income tax* if the LLC doesn’t do business in Delaware, though LLCs must pay $300 annually for the Delaware LLC franchise tax.
*No [state] sales tax* if the LLC doesn’t do business in the state.
*No [state] tax on intangible income*, like trademark royalties, making Delaware an excellent choice for holding companies that own intellectual property."






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www.incorporate.com


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## kenose (Feb 28, 2020)

C.R. Rivera said:


> Then, is this now no longer effective, if you are outside of Delaware and form a LLC there?
> 
> "What about Delaware state tax? It offers three big advantages for out-of-state businesses organized as Delaware LLCs:
> 
> ...


It depends on the state, but for example if you are doing business in California it does not matter— you still have to pay the $800 CA minimum franchise tax along with any other CA taxes, and then you will be paying both the Delaware fees + the CA fees.


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## dzilizzi (Feb 28, 2020)

kenose said:


> It depends on the state, but for example if you are doing business in California it does not matter— you still have to pay the $800 CA minimum franchise tax along with any other CA taxes, and then you will be paying both the Delaware fees + the CA fees.


If you incorporate in any other state other than the one you are doing business in, you will likely be paying double tax because each state wants their taxes.


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## AllanH (Mar 1, 2020)

dzilizzi said:


> This is what I remember from when I researched this and worked in the tax field. Its been a while but the basics shouldn't have changed much.
> ...



Thanks to @dzilizzi for capturing some essential differences. A few additional thoughts:

1) In my experience, many independent attorneys tend to recommend LLCs over S-Corps. I've never really understood why, as the protection by the corporate structure seems better. It's probably due to the fact that many law firms are LLCs or partnerships encapsulated by an LLC.

2) It also worth recognizing that insurance needs to be in the name of the LLC/S-Corp. In order to get your carrier to recognize your entity, you may need to document its proper creation, state and federal filings, etc. This can take quite a while.

3) A corporate entity may be able to join an insurance co-op for similar businesses and you could get better insurace (incl. health insurance) rates. My last experience with this was 10+ years ago, so this may no longer be possible or relevant.


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## dzilizzi (Mar 1, 2020)

Generally, an S-Corp and LLC aren't really that different in California. It's only when filing Federal taxes that it shows up. I think some states may treat it differently. I know some licensed professions used to not be allowed to be corporations, but I don't think that is the case anymore. LLCs may be easier to set up? I remember going to a real estate seminar years ago. You buy a house, make it its own LLC, rent it out, and when you build up equity take out a second and use it to buy your next house which you set up under its own LLC. Keep minimal asset value in each LLC so if something happens and you get sued, there's nothing much to get. 

Really, the only reason to incorporate is for asset protection. Especially if you have partners. You don't want to be responsible for stupid things they do.


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