LLC vs. Corporation in Arizona: Which Entity is Best?

Arizona Business Entity Formation

Why Form an Arizona LLC Instead of a Corporation or a Limited Partnership? 29 Questions Answered

By Arizona attorney Richard Keyt, licensed in Arizona since 1979. Mr. Keyt has formed more than 10,000 Arizona limited liability companies. Call 480-664-7478 or book a free consultation at keytlaw.com/calendar.

Quick Comparison

The Basics

1. What is the short answer — why should I form an Arizona LLC instead of a corporation or a limited partnership?

Because the LLC gives you everything a corporation gives you and more, at a lower cost and with less paperwork. An Arizona LLC protects every single owner from the debts of the business, an Arizona limited partnership does not protect its general partner. An Arizona LLC gets Arizona's strongest creditor protection statute, corporate stock gets none. An Arizona LLC can be taxed four different ways, a corporation can be taxed only two. And an Arizona LLC never files an annual report with the state, while a corporation must file one every year forever.

2. What are the three Arizona entities I am choosing among?

The Arizona limited liability company is created by filing Articles of Organization with the Arizona Corporation Commission under the Arizona Limited Liability Company Act, A.R.S. Title 29, Chapter 7. The Arizona for-profit corporation is created by filing Articles of Incorporation with the Arizona Corporation Commission under A.R.S. Title 10. The Arizona limited partnership is created by filing a Certificate of Limited Partnership with the Arizona Secretary of State under A.R.S. Title 29, Chapter 3.

3. Which of the three entities gives limited liability to every owner?

Only the LLC and the corporation. Members of an Arizona LLC are not personally liable for the LLC's debts and obligations, and shareholders of an Arizona corporation are not personally liable for the corporation's debts. An Arizona limited partnership is different: its limited partners are protected, but it must have at least one general partner, and that general partner has unlimited personal liability for everything the partnership does.

4. Why is the general partner problem usually fatal for a limited partnership?

Because someone has to be the general partner, and that someone is personally on the hook. If the limited partnership gets sued, loses, and cannot pay, the judgment creditor can go after the general partner's house, bank accounts, and investments. There is no version of a limited partnership in which every human owner is fully protected. In an LLC, every member is protected. That single difference eliminates the limited partnership for most Arizona business owners.

5. Can a limited partnership work around the general partner problem?

Yes, but only by adding complexity and cost. The two standard workarounds are to make an LLC the general partner, or to register the partnership as an Arizona limited liability limited partnership. Either route means you now have two entities to form, two sets of documents, two sets of records, and two annual burdens instead of one. You end up needing an LLC anyway. It is simpler and cheaper to skip the partnership and just form the LLC.

Asset Protection and Charging Orders

6. What happens if a creditor gets a judgment against me personally — is my LLC or my corporation safer?

Your LLC is dramatically safer. If a judgment creditor comes after you personally and you own shares of stock in an Arizona corporation, the creditor can seize the stock, sell it at a sheriff's sale, and the buyer becomes a shareholder with voting rights. If instead you own a membership interest in an Arizona LLC, A.R.S. § 29-3503 limits the creditor to a charging order and nothing else.

7. What exactly is a charging order?

A charging order is a court order that says the LLC must pay to the judgment creditor any distribution it would otherwise have paid to the debtor member. That is all it does. The creditor does not become a member, does not get voting rights, cannot vote to sell the LLC's assets, cannot force a distribution, and cannot reach into the LLC and take its property. If the LLC makes no distributions, the creditor collects nothing while the charging order sits there.

8. Does Arizona charging order protection apply to corporate stock?

No. There is no charging order statute for shares of an Arizona corporation. Corporate stock is personal property that a judgment creditor can levy on and sell like a car or a boat. If you own 100 percent of an Arizona corporation and lose a personal lawsuit — a car wreck, a guaranty, a divorce judgment, a business dispute unrelated to the corporation — the creditor can take your entire company. That risk alone is reason enough to choose an LLC.

9. Do limited partnership interests get charging order protection?

Yes. A.R.S. § 29-341 gives the judgment creditor of an Arizona limited partner only the rights of an assignee and states that the charging order is the exclusive remedy. So on this one point the limited partnership is comparable to the LLC. It still loses overall, because the general partner's unlimited personal liability is a far bigger exposure than anything the charging order statute solves.

10. Does charging order protection work for a single member LLC?

It is weaker, and you should know that going in. Some courts outside Arizona have allowed creditors to reach a single member LLC on the theory that the charging order exists to protect other members, and a single member LLC has no other members to protect. Arizona's statute is written broadly and contains no single-member exception, but no Arizona appellate court has settled the question. If asset protection is a primary goal, I frequently recommend a multi-member structure. That is a conversation worth having before you form.

Cost, Paperwork, and Red Tape

11. How many owners does each entity require?

An Arizona LLC can have exactly one member. An Arizona corporation can have exactly one shareholder. An Arizona limited partnership must have at least two people or entities, because by statutory definition it needs one or more general partners and one or more limited partners. If you are going into business alone, the limited partnership is off the table immediately.

12. What does each entity cost to form in Arizona?

Arizona LLC

$50 to file Articles of Organization with the Arizona Corporation Commission, or $85 expedited.

Arizona for-profit corporation

$60 to file Articles of Incorporation with the Arizona Corporation Commission, or $95 expedited.

Arizona limited partnership

$10 plus $3 per page to file the Certificate of Limited Partnership with the Arizona Secretary of State, plus $25 if you want it expedited.

The limited partnership looks cheapest on paper. It is not cheapest in practice, because you will almost certainly form an LLC to serve as the general partner, and you will pay a lawyer to draft a partnership agreement that is longer and more complicated than an LLC operating agreement.

13. Which entity costs money every year just to stay alive?

The corporation. Every Arizona for-profit corporation must file an annual report with the Arizona Corporation Commission and pay $45, plus a Certificate of Disclosure. Miss it and the Commission can administratively dissolve your corporation, after which reinstatement costs $100. Arizona LLCs file no annual report and pay no annual fee to the Arizona Corporation Commission. Arizona limited partnerships file no annual report with the Secretary of State either.

14. Do all three entities have to publish a notice in a newspaper?

Arizona LLCs and Arizona corporations must publish a notice of their formation in a newspaper of general circulation in the county of their known place of business, unless the Arizona Corporation Commission gives that notice electronically for the county. The Commission does that for Maricopa County and Pima County, so if your known place of business is in either county — which covers Phoenix, Scottsdale, Paradise Valley, Mesa, Tempe, Chandler, Queen Creek, Gilbert and Tucson — you publish nothing and pay nothing. Outside those two counties, expect roughly $80 to $200 for the newspaper. Arizona limited partnerships filed with the Secretary of State have no publication requirement.

15. How fast can each entity be formed?

An Arizona LLC or corporation can be approved by the Arizona Corporation Commission in a day, or within two hours if you pay for accelerated service. The Arizona Secretary of State takes two to three weeks to process a limited partnership filing, or three to five business days if you pay to expedite. If you need an entity in place quickly to close a transaction, the limited partnership is simply too slow.

16. What ongoing paperwork does a corporation require that an LLC does not?

A corporation needs bylaws, a board of directors, elected officers, issued stock certificates, a stock transfer ledger, annual shareholder meetings, annual director meetings, written minutes of those meetings, and board resolutions authorizing significant acts. An Arizona LLC needs an operating agreement and nothing else. No required meetings, no required minutes, no board, no officers, no stock.

17. Does skipping corporate formalities put my liability shield at risk?

Yes, and that is exactly the point. Arizona courts will pierce the corporate veil and hold owners personally liable when an entity is treated as the owner's alter ego, and failing to observe required formalities is a classic piercing factor. Almost nobody actually holds annual shareholder meetings and writes minutes. An LLC eliminates the trap by eliminating the requirement — there are far fewer formalities to fail to observe. You still must keep business and personal funds separate, sign contracts in the LLC's name, and adequately capitalize the entity.

Taxes

18. How is an Arizona LLC taxed?

However you want, within limits. A single member LLC is disregarded by default, meaning its income goes on your personal return with no separate business tax return. A multi-member LLC is taxed as a partnership by default and files Form 1065. Either one can elect to be taxed as an S corporation or as a C corporation. That is four options, and you can change the choice as the business grows. No other Arizona entity offers that flexibility.

19. How is an Arizona corporation taxed?

Two ways only. By default it is a C corporation, which pays federal income tax at 21 percent on its profits plus Arizona corporate income tax. Alternatively, if it qualifies, it can elect S corporation status and pass income through to its shareholders. A corporation can never be a disregarded entity and can never be taxed as a partnership.

20. What is double taxation, and can an LLC ever suffer it?

Double taxation is what happens in a C corporation: the corporation pays tax on its profit, then the shareholders pay tax again on the same money when it comes out as a dividend. The same dollar is taxed twice. An LLC only experiences double taxation if you affirmatively elect to have it taxed as a C corporation, which almost nobody should do without a specific reason. The default treatment of an LLC — disregarded or partnership — has exactly one layer of tax.

21. What are the S corporation ownership restrictions, and does an LLC have them?

An S corporation may have no more than 100 shareholders, may have only one class of stock, and may not have a shareholder that is a nonresident alien, a partnership, or a corporation. Violate any of these and the S election terminates, sometimes retroactively and expensively. An LLC taxed as a partnership has none of these restrictions. It can have unlimited members, foreign members, entity members, and as many different classes of membership interest as the deal requires.

22. Can an LLC get the same self-employment tax savings as an S corporation?

Yes. The self-employment tax savings people associate with S corporations come from the S election, not from being a corporation. An Arizona LLC can file Form 2553 and be taxed as an S corporation while remaining an LLC under state law. You get the payroll tax planning and you keep the charging order protection, the tax flexibility, and the freedom from annual reports. This is why I so rarely form a corporation for a client who wants S corporation tax treatment.

23. Why should real estate never be owned by a corporation?

Because getting appreciated real estate out of a corporation is a taxable event. If a corporation distributes property worth more than its basis, the corporation recognizes gain as if it sold the property, and in a C corporation the shareholders are taxed again on the distribution. An LLC taxed as a partnership can generally distribute appreciated property to its members with no gain recognized. Real estate goes up in value, and it eventually comes out of the entity, so this difference is enormous. If you are buying a rental house, an office building, or raw land in Arizona, use an LLC.

24. Does an LLC give owners basis for the entity's debt?

Yes, and a corporation does not. In an LLC taxed as a partnership, members increase their outside basis by their share of the entity's liabilities, which lets them deduct losses funded by borrowed money. S corporation shareholders get no basis for corporate-level debt unless they personally lend the money to the corporation. For a leveraged business — and especially for leveraged real estate — this alone can be worth tens of thousands of dollars in deductions.

25. Can an LLC allocate profits and losses differently than ownership percentages?

Yes, if the allocations have substantial economic effect under the partnership tax rules. An LLC operating agreement can give the money partner a preferred return, allocate early depreciation to one member, and flip the splits after payback. An S corporation cannot do any of this, because its one class of stock rule forces every distribution and allocation to be strictly pro rata. If your deal has investors, an LLC is the only sensible choice.

Family, Estate Planning, and Special Situations

26. Which entity is best for a family business or an estate plan?

The LLC. Membership interests are easy to give to children or to trusts a little at a time, and the operating agreement can keep control with the parents while transferring economic value. Because a transferee of a membership interest generally receives only economic rights and not management rights, the parents can gift value without handing over the steering wheel. Corporate stock does not work this way — stock carries voting rights with it unless you create a separate nonvoting class.

27. How does an LLC fit into my revocable living trust?

Beautifully, and this is the part most people miss. If you own your LLC membership interest in your own name and you die, that interest goes through Arizona probate — a public, slow, expensive court process. If your revocable living trust owns the membership interest instead, it passes to your beneficiaries privately and immediately with no probate. Assigning your LLC to your trust takes one document. Every business owner I form an LLC for should also have a trust that owns it.

28. Is a corporation ever the better choice?

Occasionally, and I will tell you when. Form a C corporation if you intend to raise institutional venture capital, because venture funds insist on Delaware C corporations. Form a C corporation if you want to issue incentive stock options to employees, which only corporations can grant. Form a C corporation if you are pursuing qualified small business stock treatment under Internal Revenue Code section 1202, which can exclude millions of dollars of gain from tax but is available only for stock of a C corporation. Outside those situations, I have formed more than 10,000 Arizona LLCs and very few Arizona corporations, for good reason.

29. Is a limited partnership ever the better choice?

Rarely. Limited partnerships still show up in oil and gas programs, older real estate syndications, and family limited partnerships created decades ago when the LLC did not exist or was untested. If you are starting fresh in Arizona today, the LLC does everything the limited partnership does, protects everyone instead of everyone but one person, forms in a day instead of three weeks, and files online instead of on paper.

What To Do Next

If you are starting an Arizona business, buying Arizona real estate, or holding assets you want to shield from a future lawsuit, the Arizona LLC is almost always the right container. The harder questions are the ones the state form does not ask: how many members, what the operating agreement says about control and buyouts, whether your spouse's community property interest is handled correctly, whether the LLC should be owned by your revocable living trust, and whether to elect S corporation tax treatment.

Those questions are what I spend my time on. I have practiced law in Arizona since 1979 and formed more than 10,000 Arizona limited liability companies.

How to Hire Us to Form an Arizona LLC

Hire Us to Form an LLC or PLLC: See the contents and prices of our three LLC formation packages. Submit this LLC Formation Questionnaire to hire us to form your Arizona LLC or PLLC within 24 hours of you approving the questionnaire and paying the fee.

This article is general information about Arizona law, not legal advice, and reading it does not create an attorney-client relationship. Statutes, filing fees, and federal tax rules change. Filing fees stated above are the Arizona Corporation Commission and Arizona Secretary of State fees in effect when this article was published. Consult an attorney about your own circumstances before choosing or changing a business entity.