In the world of business formation, the term PLLC, or Professional Limited Liability Company, refers to a special legal business entity that is designed for licensed professions for rendering professional services. However, navigating the specifics of using a PLLC can be a challenge, particularly as business structure regulations vary from state to state. This article discusses the permissibility of utilizing a PLLC in California, and the alternatives for professional small business owners.

The California Revised Uniform Limited Liability Company Act of the California Corporations Code Prohibits the Use of LLCs for the Provision of Professional Services in California

Use of a California LLC to Render Professional Services

Neither a foreign nor a California limited liability company (LLC) may be used to render professional services in California. This comes as a surprise to many licensed professions, as professional limited liability companies (PLLCs) are commonly used to render professional services in other states. However, California Corporations Code Section 17701.04(e) answers the question clearly regarding the use of a foreign or California LLC as a business entity for licensed professionals in California:

“Nothing in this title shall be construed to permit a domestic or foreign limited liability company to render professional services, as defined in subdivision (a) of Section 13401 and in Section 13401.3, in this state.”

Thus, licensed professionals may not use or form limited liability companies for the provision of professional services in California.

Use of a California PLLC to Render Professional Services

Based upon California Corporations Code Section 17701.04(e), which prohibits the use of a foreign or California LLC to render professional services, because nothing in the California Corporations Code differentiates the idea of a California PLLC from the California LLC, there is nothing in California law regarding LLC formation for the provision of professional services, and nothing establishes a California PLLC as a business entity that may be formed under California law.

In short, there is no California PLLC as the law currently stands at the time of this writing in 2024, and thus professionals are unable to form a California PLLC for their professional services. This is a significant departure from the norm in many other states, where PLLCs are a commonly used business entities for professionals.

Use of a Foreign PLLC to Render Professional Services

Based upon California Corporations Code Section 17701.04(e), which prohibits the use of a foreign or California LLC to render professional services, and because the California Corporations Code does not differentiate between a between a foreign LLC or foreign PLLC for purposes of California Corporations Code Section 17701.04(e), neither a foreign LLC nor a foreign PLLC may be used to render professional services in California.

Professional practices that are structured as PLLCs in other states need to exercise extreme caution when offering professional services in California. The prohibition set forth in California Corporations Code Section 17701.04(e) means that out-of-state professional practices operating as PLLCs in their home state may encounter legal restrictions if they wish to offer their services in California. Therefore, the professionals practicing under these PLLCs in their home states must not use their PLLCs when rendering professional services in California and must do so either as a California Sole Proprietorship or California General Partnership by default, or by establishing a California Professional Corporation or for certain professions a California LLP, as will be discussed below.

What Business Structure Options Do Professionals Have in California?

As California does not allow the use of California LLCs, foreign LLCs, or foreign PLLCs (and there is no such thing as a California PLLC!) for the provision of professional services in the State of California, California licensed professionals seeking to practice their profession in California must explore choose one of the permissible business structures, as discussed below.

Selecting the best permissible business structure option will depend on the specific professional services to be offered and the regulations governing those services. In the following subsections, we will introduce the various business entities that are permitted to render professional services in California, including sole proprietorships, general partnerships, professional corporations, and limited liability partnerships, each of which comes with its own set of advantages and limitations.

A California Licensed Professional May Practice as a Sole Proprietorship in California

A sole proprietorship is a straightforward and uncomplicated business structure that may be utilized by licensed professionals in California. In a sole proprietorship, the individual professional business owner is the sole owner and operator of the business.

Limited Liability Protection for Professional Sole Proprietors in California

Sole proprietorships do not provide their owners with limited liability protection in California. In this type of business structure, the professional business owner is personally responsible for all business debts, liabilities, obligations, and all legal judgments against the business. This means that if the business incurs a debt or is sued, the personal assets of the professional business owner, such as their home, car, and personal bank accounts, can be used to settle these obligations.

The lack of limited liability protection is a significant disadvantage of operating a professional practice as a sole proprietorship and is a critical factor that professionals should consider when deciding on the most appropriate business structure for their professional practice in California.

Taxation of Professional Sole Proprietors in California

In California, professional sole proprietorships are subject to pass-through taxation, meaning the business itself is not separately taxed. Instead, the income or loss of the business is passed through to the professional business owner. The sole proprietor reports business income and expenses on Schedule C of their personal federal income tax return (Form 1040). The net profit or loss is then reported on the personal tax return of the professional business owner and taxed at individual income tax rates.

In addition to income taxes, a professional sole proprietor in California is also subject to self-employment taxes, which cover Social Security and Medicare taxes. As of the date of this writing in 2024, this is calculated on Schedule SE of the federal tax return at a rate of 15.3% on the first $168,600 of net income and 2.9% on all net profit in excess of the first $168,600.

At the state level, California has one of the highest state income tax rates in the country, and these rates apply to business income that passes through to the personal tax returns of professional sole proprietors.

When Should a California Licensed Professional Practice as a Sole Proprietorship in California?

A California licensed professional should only consider practicing as a Sole Proprietorship in California when they are starting their professional practice and have limited financial resources, will not have employees, do not expect to grow their practice beyond just a few patients or clients, and have substantial insurance coverage for the liabilities and risks associated with their professional practice.

However, as the professional practice grows, the professional business owner should reconsider the use of a sole proprietorship for their professional practice as revenue increases, before hiring employees, or as professional liabilities increase. Upon the first to occur of increasing revenue, hiring employees, or increases in professional liability, it will be advantageous for the professional business owner to explore other business structures that offer tax benefits and liability protection.

Two or More California Licensed Professionals May Practice as a General Partnership in California

A California General Partnership used for a professional practice is a business entity in which two or more professionals join together to provide professional services in California. In such a setup, all partners share equal rights and responsibilities in managing the business of the professional practice.

Limited Liability Protection for Professional General Partners in a California General Partnership

General Partnerships in California do not provide professional partners with limited liability protection. This means each professional partner has joint and several personal liability for all business debts, liabilities, obligations, and all legal judgments against the business, including those incurred by other partners which includes acts of malpractice by the other professional partners. If the California General Partnership is sued or incurs debt, the personal assets of each partner, such as their home, vehicles, and personal savings, could be at risk, even if they are not found personally at fault for incurring the debt or committing the act of malpractice.

This lack of limited liability protection is a considerable drawback for California General Partnerships rendering professional services and something California licensed professionals should seriously factor into their decision when considering a California General Partnership for their practice in California.

Taxation of General Partnerships in California

In California, General Partnerships are taxed under the pass-through taxation system. This means the California General Partnership itself does not pay income taxes. Instead, the share of the profits or losses of the California General Partnership allocated to each partner passes through to their personal income tax return. The individual partners are responsible for paying federal and state income taxes on their allocated share of the profits of the California General Partnership at their individual income tax rates.

Each partner is also required to pay self-employment taxes, which are Social Security and Medicare taxes for self-employed individuals. As of the date of this writing in 2024, this is calculated on Schedule SE of the federal tax return at a rate of 15.3% on the first $168,600 of net income and 2.9% on all net profit in excess of the first $168,600.

California General Partnership earnings are also subject to the California state income tax. The state has a progressive income tax system with rates ranging from 1% to 13.3%, depending on the income of the taxpayer. These rates apply to the allocated share of the California General Partnership income allocated to each partner and passed through to their personal tax returns.

When Should California Licensed Professionals Practice as a General Partnership in California?

Based upon the unlimited liability and tax structure of a California General Partnership, a California General Partnership should probably not be considered by licensed professionals practicing in California, as there are two superior options for a professional practice in California that provide more personal liability protection than a California General Partnership for a professional practice.

One or More California Licensed Professionals May Practice as a California Professional Corporation in California

California Professional Corporations are a specialized form of corporate business structure designed specifically for licensed professionals who seek personal liability protection and tax benefits for their professional practice. A California Professional Corporation is a separate legal entity distinct from its business owner(s), which distinguishes it from a California Sole Proprietorship (which is the licensed professional personally practicing) or a California General Partnership or California LLP (which is a group of licensed professionals practicing together).

Limited Liability Protection from a Professional Corporation in California

In a California Professional Corporation, the personal assets of the professional are generally protected from business debts, liabilities, obligations, and legal judgments against the California Professional Corporation. This means that in most instances, if the California Professional Corporation is sued or incurs debt, the personal assets of the professional (such as their home, vehicles, and personal savings) are shielded from creditors.

It is essential to note that this limited liability protection does not extend to professional malpractice claims against a licensed professional. The personal asset protection applies only to debts and obligations incurred by the California Professional Corporation, not by the individual actions of a professional. However, when two or more professionals are practicing their profession in a California Professional Corporation, a malpractice claim against one licensed professional is not a malpractice claim against all the other licensed professionals, which is a significant increase in personal liability protection for professional malpractice compared to a California General Partnership.

While the use of a California Professional Corporation provides business liability protection, it does not eliminate the requirement for individual professionals to maintain adequate malpractice insurance coverage or for the California Professional Corporation to otherwise secure liability insurance for indemnification of its liabilities.

Taxation of Professional Corporations in California

Professional Corporations in California can opt to be taxed as personal service corporations subject to double taxation or S Corporations, which alters the tax landscape for these entities. As the vast majority of California Professional Corporations elect S Corporation taxation, this article will focus on S Corporation taxation of California Professional Corporations.

With S Corporation status, the California Professional Corporation itself does not pay income tax. Instead, the income and losses of the California Professional Corporation pass through to the personal income tax returns of the shareholders.

To qualify for S Corporation status, the California Professional Corporation must meet certain requirements including having no more than 100 shareholders, all of whom must be U.S. citizens or residents, and having only one class of stock.

One of the key advantages of S Corporation status for a Professional Corporation lies in the area of self-employment taxes. Salaries and wages paid to shareholder-employees are subject to self-employment taxes (Social Security and Medicare). However, any additional profits distributed to shareholders are not subject to either payroll taxes or self-employment taxes. This can result in significant tax savings.

In terms of state taxes, California taxes S Corporations at a rate of 1.5% of their net income, with a minimum tax of $800 paid annually to the California Franchise Tax Board. Shareholders in a California Professional Corporation taxed as an S Corporation are also required to pay state income tax on their allocated share of the income of the California Professional Corporation.

When Should California Licensed Professionals Practice Using a Professional Corporation in California?

A California licensed professional should consider practicing as a Professional Corporation in California when seeking personal liability protection and tax benefits for their professional practice. This structure is particularly advantageous if the professional wishes to shield their personal assets from business debts, liabilities, and obligations while also shielding themselves from legal judgments against the California Professional Corporation, with the exception of individual professional malpractice claims.

If the licensed professional can meet the requirements necessary to qualify for S Corporation status, they can enjoy significant tax advantages. This includes the potential for tax savings through the having no self-employment tax liability on profits distributed to shareholders, and only payroll tax liabilities on a reasonable salary paid to them as an employee of the California Professional Corporation.

Based upon the availability of both limited liability and tax benefits for the licensed professional, the California Professional Corporation should be the go-to business entity for California licensed professionals.

Two or More California Licensed Accountants, Architects, Attorneys, Engineers, and Land Surveyors May Practice as a California LLP in California

For accountants, architects, attorneys, engineers, and land surveyors who are seeking to practice together in California, a California Limited Liability Partnership (California LLP) can be an attractive business structure, at least for now.

The California LLP is scheduled to phase out for architects, engineers, and land surveyors on January 1, 2026, pursuant to California Corporations Code Section 16101, which will leave California LLPs only available for accountants and attorneys in California.

A California LLP allows two or more licensed professionals to join together in a partnership while also providing each partner with limited liability protection, similar to that of a California Professional Corporation.

Limited Liability Protection from a Limited Liability Partnership in California

In a California LLP, all partners enjoy a level of limited liability protection. This means that each partner is not personally responsible for the debts, obligations, or liabilities of the California LLP arising from errors, omissions, incompetence, or malfeasance committed by another partner or an employee not under their direct control. Thus, the personal assets of a partner, such as their home, personal savings, and vehicles, are safeguarded from the creditors of the California LLP. Unlike California General Partnerships, where each partner can be held liable for the actions of another partner, a California LLP prevents such vicarious liability like a California Professional Corporation.

However, and as with a California Professional Corporation, it should be noted that this protection does not absolve individual partners from the consequences of their own professional misconduct. Therefore, it is crucial for partners in a California LLP to have adequate malpractice insurance coverage.

Taxation of Limited Liability Partnerships in California

California LLPs are taxed under the pass-through taxation system. This means the California LLP itself does not pay income taxes. Instead, the share of the profits or losses of the California LLP allocated to each partner passes through to their personal income tax return. The individual partners are responsible for paying federal and state income taxes on their allocated share of the profits of the California LLP at their individual income tax rates.

Each partner is also required to pay self-employment taxes, which are Social Security and Medicare taxes for self-employed individuals. As of the date of this writing in 2024, this is calculated on Schedule SE of the federal tax return at a rate of 15.3% on the first $168,600 of net income and 2.9% on all net profit in excess of the first $168,600.

California LLP earnings are also subject to the California state income tax. The state has a progressive income tax system with rates ranging from 1% to 13.3%, depending on the income of the taxpayer. These rates apply to the allocated share of the California LLP income allocated to each partner and passed through to their personal tax returns.

A California LLP is also subject to an annual franchise tax of $800 payable to the California Franchise Tax Board.

When Should California Licensed Professionals Practice Using a Limited Liability Partnership in California?

Based upon the sunsetting of California LLPs for architects, engineers, and land surveyors on January 1, 2026, these professionals should probably not start a California LLP and be forced to restructure their practices (unless the California Corporations Code is amended prior to January 1, 2026 to prolong the use of California LLPs by these professionals).

California licensed accountants and attorneys should consider practicing under a California LLP if there is a compelling reason to not choose a California Professional Corporation. For example, if professionals wish to separate equity ownership from allocation of profits, a California LLP would allow this whereas allocations of profits from a California Professional Corporation must be done on a pro rata basis based on share ownership. Another example would be where professionals want to limit their liability but do not qualify for S Corporation status and the partnership taxation of a California LLP would be more tax efficient than taxation of a California Professional Corporation taxed as a personal services corporation subject to double taxation. Otherwise, a California Professional Corporation is likely to be a better business structure than a California LLP for most California licensed professionals.

Secure Your Future with Legal Services from Experts in California Professional Business Structures: Let San Diego Corporate Law Guide Your Business Structure Selection

Choosing the right business structure for your practice in California is a critical step for every California licensed professional. It can significantly influence your tax obligations, personal liability, and the overall success of your professional practice. At San Diego Corporate Law, our experienced legal team is well-versed in California business laws and can help you navigate the complexities. Whether you are considering a California Professional Corporation or a California LLP, we can provide the guidance necessary to make an informed decision. Contact us today to schedule a consultation and ensure your professional practice starts in California on solid legal footing.