There are a few things you must decide when you start your business. One of the first few decisions will be the entity structure of your organization. You must decide whether it will be a sole proprietorship, partnership, corporation, or limited liability company (LLC). (If you need a brief explanation of the main business types, see http://www.sba.gov/category/navigation-structure/starting-managing-business/starting-business/choose-your-business-stru)
The business structure which is right for your business depends on the type of business you operate, number of owners, and its financial position. No one choice is perfect for every business: Business owners must choose the structure that best meets their goals. This article introduces several of the most important factors to consider, including:
- the potential risks and liabilities of your business
- the formalities and expenses involved in establishing and maintaining the various business structures
- your income tax situation
- your investment needs.
Risks and Liabilities
The best ownership structure for your business is largely dependent on the type of services or products it will offer. If your business will engage in inherent risky business activities— for example, trading stocks or repairing roofs — you’ll most likely want to form a business structure that separates your personal liability from the business’ liability (“limited liability”), which shields your personal assets from business debts and claims. A corporation or a limited liability company (LLC) is likely the best structure for your business.
Again, to learn more about the advantages and disadvantages of each type of business structure, please refer to http://www.sba.gov/category/navigation-structure/starting-managing-business/starting-business/choose-your-business-stru
Formalities and Expenses
The simplest structures to set up are undoubtedly sole proprietorships and partnerships — you don’t have to file any special forms or pay any fees to start your business. Additionally, there are not any special operating rules that must be adhered to.
On the other hand, LLCs and corporations are almost always more expensive to create and more difficult to maintain. To form an LLC or corporation, you must file a document with the state and pay a fee, which can range (typically $40 to $800); depending on the state your business is formed. Keep in mind that, owners of corporations and LLCs must elect officers (usually, a president, vice president, and secretary) that manage the company’s affairs. They are also tasked with keeping important business records and other formalities.
If your business is beginning on a shoestring, it may be economically better to form the simplest type of business — a sole proprietorship (for one-owner businesses) or a partnership (for businesses with more than one owner). However, if your business will take on any form of risks that could expose you to potential lawsuits, the limited personal liability provided by an LLC or a corporation may be worth the cost and paperwork required to create and operate one.
Owners of sole proprietorships, partnerships, and LLCs all pay taxes on business profits in the same way. The IRS refers to these three business types as “pass-through” tax entities, which means that all of the profits and losses pass through the business to the owners, who report their share of the profits (or deduct their share of the losses) on their personal tax returns. Therefore, sole proprietors, partners, and LLC owners can expect roughly the same amount of tax complexity, paperwork, and costs.
Owners of these unincorporated businesses must pay income taxes on ALL net profits of the business. This is regardless of how much they actually take out of the business for the given year. Consider that even if all of the profits are kept in the business checking account to meet upcoming business expenses, the owners must report their share of these profits as income on their individual tax returns.
Contrast this to the owners of a corporation that do not report their shares of corporate profits on their personal tax returns. These owners pay taxes only on profits they actually receive (salaries, bonuses, and dividends).
Keep in mind that the corporation itself pays taxes, at special corporate tax rates, on any profits that are left in the company from year to year (called “retained earnings”). Furthermore, corporations also have to pay taxes on dividends paid out to shareholders. However, small corporations rarely pay dividends so they are largely unaffected by this tax burden.
This separate level of taxation makes it quite a bit more complex to filing and paying taxes for corporations, but it can be a benefit to many businesses. For instance, owners of a corporation don’t have to pay personal income taxes on profits they don’t actually receive. How does this happen? For example, take a corporation that earned up to $75,000 in one year; because corporations enjoy a lower tax rate than most individuals for the first $50,000 to $75,000 of corporate income, a corporation and its owners may actually have a lower combined tax bill than the owners of an unincorporated business that earns the same amount of profit. This is just one of the benefits of the corporate entity. It is recommended that you contact your Ft. Lauderdale small business attorney to discuss your business entity and formation when are you setting up your business.
The corporate structure is the only business structure that allows a business to sell ownership shares in the company through its stock offerings. This added advantage to corporations allows them to attract investment capital and to hire and retain key employees by enticing them with employee stock options.
However, for businesses that don’t need to issue stock options and will never “go public,” forming a corporation may not be worth the added expense. If it’s solely for limited liability, an LLC provides the same protection as a corporation, but the simplicity and flexibility of LLCs offer a clear advantage over corporations. For more help on choosing between a corporation and an LLC, read http://www.sba.gov/category/navigation-structure/starting-managing-business/starting-business/choose-your-business-stru. For assistance in setting up your business entity, contact a trusted Margate business attorney at Darfoor Law Firm, P.A.
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