LLC Independent Contractor: What Should You Know?

Independent contractors often need to decide whether to form a single-member LLC or continue operating as a sole proprietor. But this can be tough to do, because there are many factors to consider while deciding between being an independent contractor vs. operating as an LLC sole proprietorship.

That’s why we’ve created this guide. It covers everything you need to know about the tax advantages for LLC independent contractors and the personal liability protection offered by a professional LLC. But we’ll also highlight some of the potential downsides as well to keep you informed.

So, without further delay, let’s get started.

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What is an Independent Contractor?

According to the IRS, an individual is an independent contractor if the payer has the right to control or direct only the result of the work rather than how the work is done. This means you’re likely an independent contractor if you work for a client who requests work from you but lets you do the work as you see fit.

For example, freelance writers are independent contractors because their clients request end products with certain specifications and don’t control the writing process. Most independent contractors who have this type of relationship with clients will qualify under this category.

Differences Between Independent Contractors & Sole Proprietors

Both an independent contractor and a sole proprietorship are technically one-person businesses. So what distinguishes the two?

It’s mostly a difference of language. An independent contractor describes the relationship that you may have with your clients as a single-person business. But you can still be described as a sole proprietorship when you’re not talking about the relationship specifically.

For example, to your clients, you’re an independent contractor. But if you were just talking about your business generally, you’d probably call it a sole proprietorship if you pay self-employment taxes.

An Independent Contractor Vs an LLC

The more meaningful distinction is between independent contractors and LLCs. The key difference between these two is that an LLC is a formal business entity that sole proprietors must register with the state.

As a business owner, you’ll have a separate business entity if you create a single-member LLC. You won’t just be working as an independent contractor or freelancer; you’ll be working through a business structure with just one person as your own boss.

Advantages of an LLC for an Independent Contractor

Now that we’ve defined some terms for LLC owners let’s take a closer look at the pros and cons of being an independent contractor vs. LLC ownership of your business. We’ll start by discussing the advantages of LLC-owned business structures.

Asset Protection

The biggest reason to create an LLC is to separate your personal finances and personal property from your business bank account. That way, if your business has financial issues with excessive business expenses, your personal tax return and assets won’t be impacted.

Tax Flexibility

LLCs also offer potential tax savings and may reduce your self-employment taxes or income taxes. There’s also more flexibility overall with your business taxes, so you can enjoy the benefits of pass-through taxation without having to worry about double taxation when you pay taxes for your company.

Professional Image

Beyond tax purposes, it can also enhance the professional image of independent contractors to form a single-member LLC. Doing so enables sole proprietors to market a business rather than their own services, which has its advantages for business credibility. 

Heightened Credibility

As we’ve just mentioned, your business credibility will likely go up if you form an LLC. This is because a limited liability company typically looks more professional and reputable than operating as a sole proprietor.

Tax Savings

Finally, it’s worth reiterating that you can save money on payroll tax returns, Medicare tax, payroll taxes, and more when you start an LLC. You can also avoid issues like double taxation while still benefiting from pass-through taxation on your personal tax returns. The net result could be that you pay less when you file taxes.

Disadvantages of an LLC for an Independent Contractor

Businesses types that form an LLC today protect themselves from being held personally liable in the event that employee wages or health insurance can’t be paid. But there are still some downsides worth keeping in mind.

Time & Money

First, you will increase your business expenses if you fill out an independent contractor form and start an LLC. All business entity types (including a C-corporation or S-corporation) have filing fees you have to pay on an annual basis to ensure limited liability status (even for multiple owners).

Sole proprietors may even want to hire a business law attorney to verify they’re making the right decision when it comes to being an independent contractor vs. LLC. As you evaluate business types and figure out how you want to receive income, the extra costs your business create can drain your personal assets. 

Annual Maintenance

Similarly, there’s also annual maintenance requirements for LLCs. You’ll have to submit forms like an S-corporation or C-corporation and may need a law firm to help you avoid remaining personally liable if you set your business up this way.

Should You Form an LLC as an Independent Contractor?

So – what’s the bottom line? Should you form an LLC as an independent contractor or not?

The primary difference is that your personal assets, such as your personal bank account, will be better protected if you have an LLC, S-corporation, or C-corporation. You have to decide whether the costs and extra work associated with turning your business into an LLC and maintaining that distinction are worth these benefits.

Some people will decide that the benefits outweigh the costs and some will think the opposite. It depends on your business and the situation you find yourself in financially.

The Top 2 LLC Services

ZenBusiness

ZenBusiness is our top choice overall because it offers many different types of support for your business, including help with taxation, accounting, and business growth. The company also offers after-hours support, which can be very helpful if you enjoy working outside of standard business hours.

Northwest Registered Agent

Northwest is another reputable option that’s slightly less expensive than ZenBusiness. However, it doesn’t offer quite as many add-on business services, and you won’t be able to get after-hours support if you choose this provider.

Read More: Best LLC Services 2024

Final Thoughts

The bottom line is that starting an LLC is a smart way to separate your personal and business finances. It costs money and takes time to become an LLC, but you can always hire professional services to do the job for you if you’d rather not have to worry about it yourself.

This guide presented the pros and cons of forming an LLC to help you decide whether doing so is right for your company. We wish you all the best moving forward no matter what you decide to do.

Frequently Asked Questions (FAQs)