The three key things to keep in mind when choosing a business form are: liability, taxation, and ownership. Corporations and LLCs are legally separate entities from their owners. So, the shareholders or members are not personally responsible for the actions of the business. If something goes wrong, the company is sued, not the owners, and the company’s assets are at stake, not the personal assets of the owners. There are exceptions, but, generally, a corporate entity will protect the owners from personal liability.
Taxation issues should also be considered. As a separate legal entity, corporations are taxed as such. And so are the owners. This is double taxation. There are other forms of corporate entities, however, that have special pass-through tax rules. Pass- through taxation means that the owners of the business can take the gains or losses of the business on their personal tax returns.
Additionally, certain legal business forms limit the number or the type of people who can invest in the company. If you need to attract a large number of investors, or international investors, you need to find a corporate structure that allows for that.
The legal structures to consider are:
Sole Proprietorship or Partnership
The advantages of both of these forms is that there are no forms to file and no double taxation. You just start your business. These two forms, however, do not shield the owners from personal liability. If the company is sued, you will be personally responsible for its actions, and your personal assets are at risk.
Limited Liability Company
The LLC is a legal form which provides limited liability for the company’s owners, but does not require the same amount of formal filings as does the corporation. It has quickly become the choice for small businesses. An LLC offers personal liability protection to its owners as well as pass through taxation. It also allows for profits to be distributed unequally, allowing for more flexibility in tax planning and for rewarding owners who manage the day-to-day affairs of the company. The disadvantages are that you may are limited in transferring ownership and your tax liability could be higher, especially if you are the only member.
S Corporation
This is a corporation formed with the state, with an “S Election” filed with the IRS. It provides limited liability to its shareholders, but still allows for pass through taxation. Shares a often more transferable, and you can incentivize employees with stock options or bonuses. The number and type of investors are limited, however, and there are more filing formalities that need to be observed than with an LLC.
C Corporation
This is a corporation that allows for the most investors. There is limited liability for its owners. It is, however, subject to double taxation.
While many small businesses are interested in saving money and using online forms to form legal entities, it is important to discuss your goals with your attorney before selecting a corporate form. An attorney can help you choose the right form to fit your business today and ten years from now.
Contact Williams Oinonen LLC today for more information about your choices in starting a business.