The Limited Liability Company (LLC) is often hailed as the ideal entity for entrepreneurs due to its simplicity and perceived liability protection. However, the reality is that the LLC is not as distinct from its creator as many believe. By contrast, corporations—particularly Close Corporations—offer a truly separate and distinct legal identity, along with powerful financial tools and tax advantages that LLCs simply cannot match. In this post, we’ll examine the critical differences between LLCs and corporations, using real-world examples to demonstrate why the Close Corporation is the superior choice for entrepreneurs who value protection, flexibility, and access to capital.

The EIN Letter: A Clear Indicator of Separation

One of the most overlooked pieces of evidence showing that an LLC is not truly separate from its creator is the EIN (Employer Identification Number) letter issued by the IRS. When an individual forms an LLC and applies for an EIN, the EIN letter will typically list both the LLC’s name and the creator’s name. This is because the IRS views the LLC, by default, as a disregarded entity or a pass-through entity, meaning the individual and the business are taxed as one. This explicit connection between the individual and the LLC on official IRS documentation undermines the idea that the LLC is a separate legal entity. Contrast this with the EIN letter of a corporation. When a corporation—such as a Close Corporation—applies for an EIN, the letter lists only the corporation’s name. There is no mention of the creator because the corporation is recognized as a completely separate legal entity. This distinction carries significant implications:

• Liability Protection: A corporation’s liability protection is far stronger because it is treated as an entirely independent entity in the eyes of the law.
• Perception in Financial Institutions: Lenders and investors view a corporation as a standalone business, increasing its credibility and trustworthiness.

Credit Building: Close Corporations vs. LLCs

Building credit for an LLC is often tied to the personal creditworthiness of the creator or owner. This reliance on personal guarantees significantly reduces the ability of an LLC to operate independently and undermines its claim to limited liability. Close Corporations, on the other hand, are designed to stand on their own. Here’s why building credit for a Close Corporation is far easier and more impactful:

• Separate Credit Identity: Because a Close Corporation is a distinct legal entity, it can establish its own credit profile, independent of the owner’s personal credit.
• Guarantor Capabilities: A Close Corporation has the unique ability to act as a guarantor for lines of credit and loans issued to other entities. For example, a holding company structured as a Close Corporation can guarantee loans for its subsidiaries, creating a powerful financial network without requiring the individual to be personally liable.
• Leverage: Close Corporations can leverage their creditworthiness to negotiate favorable terms with lenders, further enhancing their financial flexibility.

How Taxes Impact Lending Decisions

When a corporation applies for a loan, financial institutions assess the business as a standalone entity. This means the lender evaluates the corporation’s financial statements, credit history, and profitability—not the personal finances of its owners.
For Close Corporations, this separation has several advantages:

• Tax Efficiency: Corporations are taxed at a flat 21% rate, which often results in lower taxable income compared to individual tax rates. This retained income can be reinvested into the business or used to pay down debt, making the company more attractive to lenders.
• Professional Financial Statements: Corporations are often required to maintain detailed financial records, such as balance sheets and profit-and-loss statements, which give lenders a clear picture of the business’s health and viability.

LLCs, by contrast, are typically taxed as pass-through entities. This means the LLC’s income is reported on the owner’s personal tax return, blurring the lines between personal and business finances. Lenders often require LLC owners to provide personal guarantees because they lack the financial separation that corporations offer.

Demand Notes: Creating Revenue & Enhancing Lending Potential

One of the most sophisticated financial tools available to Close Corporations is the demand note. A demand note is essentially a short-term loan issued by one corporation to another, accruing interest over time. This interest can be recorded as revenue on the lending corporation’s books, creating positive financial data that can be leveraged for lending purposes.

Here’s how demand notes work in practice:

• Creating Revenue: Corporation A lends $500,000 to Corporation B via a demand note with a 10% interest rate. Over the course of a year, Corporation A accrues $50,000 in interest, which is recorded as revenue.
• Boosting Financial Statements: The accrued interest strengthens Corporation A’s financial statements, making it more appealing to lenders.
• Enhanced Creditworthiness: The positive financial data from the demand note can improve Corporation A’s credit profile, allowing it to secure larger lines of credit or loans at better rates.

Demand notes can also be used strategically within a corporate ecosystem to show income and cash flow across multiple entities, further enhancing their ability to secure financing.

Options and Access: Why Close Corporations Are Superior

Close Corporations provide a level of flexibility, protection, and access to capital that LLCs simply cannot match. By establishing a separate legal identity, Close Corporations open the door to a wide range of opportunities, including:

• Stronger Liability Protections: The corporate veil is far less likely to be pierced compared to an LLC, ensuring personal assets remain protected.
• Advanced Credit Strategies: Close Corporations can act as guarantors, leverage demand notes, and build their own credit profiles without relying on the personal credit of the owner.
• Tax Efficiency: Corporations benefit from lower tax rates and the ability to retain earnings, strategically distribute dividends, and reinvest profits.
• Scalability: Close Corporations are better equipped to raise capital, attract investors, and expand operations, making them ideal for businesses with growth ambitions.

The Bottom Line

The LLC has been marketed as a simple solution for business owners, but it falls short in key areas where the Close Corporation excels. From stronger liability protection to enhanced credit-building capabilities and tax efficiency, the Close Corporation is a far more powerful tool for entrepreneurs seeking to build and scale their businesses. If you’re ready to explore the options that truly align with your goals, contact Corvus Networks today. Let us help you design a business structure that prioritizes protection, scalability, and success.