BUSINESS ENTITIES IN DEPTH
What is the Best Form of Business Entity for your Business?
Note: This information is meant only to provide an overview and should not be considered in any way to be offered as legal advice. Please consult an attorney for a more comprehensive legal explanation.
For a more in depth discussion of the various business structures with advantages and disadvantages, see other pages on this site listed by entity.
Make An In Depth Review Of Business Entities For Long Term Business Goals
Before deciding on which business entity to use, it would be useful to make an in depth review of your long term business goals. This decision will have lasting implications, and a bad initial decision can have long term, sometimes irreversible repercussions.
Some things to consider are:
- Your plan regarding size and nature of business
- Expected profit (or loss), short term and long term
- Nature of business and vulnerability to lawsuits
- Number of partners
- Does your business have employees?
- Plans for future sale of business
- Initial business capitalization
- Future plans for going public
- Tax implications of different business entities
- Future ability and ease of obtaining financing
A Sole Proprietorship is relatively easy to set up and run; however, a Sole Proprietorship provides no personal liability protection. This may seem a minor detail when first opening a business, especially if you have no real assets. However, do not underestimate the many advantages of operating as a Corporation or LLC. Also, in the case of establishing business credit, it can be difficult to go back and undo some prior mistakes.
Some tax consequences of operation as a sole proprietor are as follows:
Profit and loss from the business will flow directly to the schedule C of your personal 1040. On one hand, this can be a good thing. There is no “double taxation” as in the case of a C Corporation, however, the disadvantages can far outweigh this advantage.
See Subchapter S filing for C Corporations (discussed below) for elimination of the “double taxation” issue.
One major issue to be aware of when operating as a sole proprietorship in the current economic environment is as follows:
As of January 2010 the word is out that as a result of internal audits by the IRS, an annual revenue collection shortfall of 300 billion dollars per year has been found. The IRS believes that the shortfall is not coming from the large corporations, but from the small businesses. They are primarily targeting the sole proprietor (approximately 67% of small businesses) who file taxes on a 1040 schedule C return.
Is this you? If it is, you may want to seriously consider converting to some type of corporate entity.
By IRS statistics, if you operate your business as a sole proprietorship, you are 300% more likely to be audited by the IRS, compared to a corporation or LLC.
FORMING A C-CORPORATION, S-CORPORATION, PC, OR LLC
While it may be of value to consult with an attorney and accountant prior to forming a corporation or LLC, it is not required. If you have a reasonable grasp of business concepts, there is no reason why you cannot do it yourself.
Go online to your state corporation commission website and spend some time studying the frequently asked questions, and any other self help info listed on the sight.
Next, you should be able to check the name you have chosen for availability.
Remember, even if the name is available and you successfully file your documents under that name; do not start spending money on that name until you receive official notification from the state that your entity has been approved. Most states allow for expedited filing (a week instead of a month) for a small extra fee. The cost of filing your documents depends on your state, but should be in the range of $50 to $300, with the LLC usually being the lower.
Prepare Your Documents
If you have decided which type of entity you wish to form, fill and copy, or download the necessary documents.
File Your Documents
In most cases you will need to go in person to your state corporation commission office. Of course you can also mail the documents.
Once your entity is approved and you receive your packet from your state, you will need to file a notice for publication in a newspaper of general, public circulation.
The form for publication should be in your packet.
It is vitally important that you follow all formalities once you have formed your corporation or LLC. Should you ever be sued, the first thing the plaintiff’s attorneys will do is go through your corporate records to see if all formalities have been followed and all procedures have been correctly followed. Even a small thing such as paying a personal bill from your corporate bank account could have disastrous consequences in the case of a law suit.
Prepare Ahead For Lawsuit
In the unfortunate event of a lawsuit, the plaintiff’s attorneys will go through your corporate records with a fine tooth comb. They will be attempting to “pierce the corporate veil”, i.e. prove that you have really been operating as a sole proprietor, and therefore, are not afforded the personal liability protection of the corporation or LLC.
TAX CONSEQUENCES OF A C-CORPORATION
A corporation is considered a separate legal and taxable entity from the owners (shareholders) of the corporation.
The C-Corporation is taxable under Subchapter C of the IRS Code.