It also provides business owners with a mechanism for ensuring that the business operations will continue, rather than being automatically terminated, upon the death of an owner. Formalizing the business also clarifies the ownership of all participants in the venture. When choosing a business entity, you should consider: 1 the degree to which your personal assets are at risk from liabilities arising from your business; 2 how to best pursue tax advantages and avoid multiple layers of taxation; 3 the ability to attract potential investors; 4 the ability to offer ownership interests to key employees; and 5 the costs of operating and maintaining the business entity.
Despite the implication in this article's title, you should not approach this subject with the idea that there is only one entity type that's right for your business. The choice you make will inevitably involve weighing the advantages and the disadvantages of several factors that apply to your particular business. You should also keep in mind that there will inevitably be various changes in the nature of your business over time, and these changes may make it more advantageous either to change your entity type or its tax classification.
With that in mind, let's take a look at the main entity types that are available. The availability of a particular entity type initially depends on the number of owners. A single owner may operate as a sole proprietor, a corporation, or a limited liability company.
If there are two or more owners of the business, by definition it cannot be a sole proprietorship, but it can be a corporation, limited liability company, general partnership, limited partnership, or, in certain situations, a limited liability partnership. A sole proprietorship is a business owned by one person. It has no legal distinction from the owner, and usually requires no governmental filing other than a fictitious business name statement "DBA" if the owner is doing business in any name other than a personal name.
A sole proprietorship is probably the most common form of business because it is simple to start and avoids the operating expenses required for other legal entities such as corporations and limited liability companies. Because there is no legal distinction between the owner and the business, a sole proprietor is personally liable for all the debts and obligations of the business.
It also means that on the death of the owner, the business enterprise terminates, leaving only the assets of the business such as equipment, accounts receivable, and real property. Because the assets used in the business are not separated from the other assets of the business owner, it may be difficult to sell the business as a whole after the death of the sole proprietor.
For tax purposes, there is no distinction between the sole proprietor and the business. This means that the net income from the business is taxed only once.
A corporation is a separate entity from its owners for both legal and tax purposes. Corporations are formed by filing Articles of Incorporation with the Secretary of State.
A corporation is comprised of three groups of people: shareholders, directors, and officers. The shareholders elect the board of directors who are responsible for setting major goals of the corporation and making major decisions. The board of directors appoints the officers, who run the business on a day-to-day basis. Since a corporation is a separate legal entity, the corporation generally is responsible for the debts and obligations of the business.
In most cases, shareholders are insulated from claims against the corporation. In addition to the limited liability protection enjoyed by shareholders, a corporation offers many other advantages over other types of entities:. A corporation taxed at the entity level is known as a C corporation. Income that has been taxed at the entity level will again be taxed if, and when, is distributed as dividends to shareholders. If properly structured, the LLC is taxed the same as a partnership.
A sole proprietorship is a business owned by one person and has little legal significance separate from its owner. Nevertheless, the sole proprietorship is probably the most prevalent form of business because of the large number of family businesses in the United States. Most large business organizations operate as corporations , despite the tax incentives to utilize the partnership or LLC form of doing business.
The principal attractions to the corporate form are the limited liability it provides to its stockholders, its familiarity and well-understood governance laws and the ability to transfer corporate stock more easily than partnership or LLC interests particularly in the public securities markets. Many venture capital and other investment funds are unable to invest in partnerships and LLCs because their major investors are pension and profit sharing trusts and other tax-exempt entities that are subject to certain tax restrictions.
The corporation is also the most familiar business entity and is governed by the most highly developed laws. However, partnerships, proprietorships and, increasingly, LLCs are also widely used for smaller businesses and where tax and other considerations warrant. The two most critical factors in selecting the form of business entity are i who the owners of the business will be and ii and how the earnings of the business will be returned to its owners.
If a business is owned by a few individuals, any of the above entities may be the appropriate business form and factors other than who the owners are will be determinative. Nonprofits operate similarly to C-Corps regarding their organization. Nonprofit corporations can only use their earnings for the above industries. Choosing the best entity for your small business can have a significant impact on your business requirements.
Work with an accountant today to make sure that you select the right business entity for your needs. This post is to be used for informational purposes only and does not constitute legal, business, or tax advice.
Each person should consult his or her own attorney, business advisor, or tax advisor with respect to matters referenced in this post. Share Post.
What is a Business Entity? The business entity that you choose can affect essential aspects of your business, such as: Liability Record-keeping Taxation What is the Best Business Entity for Small Businesses? Form A single-member LLC that conducts its business as an LLC but would like to file as a single-member corporation can submit their documents with this form. Form LLCs with multiple people can file taxes as a partnership by submitting this form.
Form Members of LLCs with multiple members can also file as a corporation by submitting this form. S-Corporation S-Corporations are another business entity that you can choose. To form an S-Corp, it must: Be a domestic corporation Have no more than members Have only allowable shareholders, including individuals, certain trusts, and estates Have only one class of stock Not be an ineligible corporation, such as domestic, international sales corporations, certain financial institutions, and insurance companies.
Corporation Corporations are another type of business entity. There are four requirements for corporations. A C-Corporation: Has a board of directors and shareholders Has a more complex structure than a limited liability company Is legally independent of its owners Is not a personal tax liability for its owners The structure of a C-Corp gives it several advantages.
Corporations can receive tax deductions for the following: Bad debts Charity donations Compensation of officers Depreciation Employee benefit plans such as insurance and pensions Rents Repairs and maintenance Although C-Corporations offer benefits to owners and shareholders, there are a few cons. Partnership Partnerships are a convenient option if you are considering starting a business with at least two people. There are different partnerships that you can select: General partnerships Limited partnerships LPs Limited liability partnerships LLPs General partnerships are the most common partnerships.
Sole Proprietorship Sole proprietorships are the most uncomplicated business entities to form. The cost of starting your sole-proprietorship is lower because there are fewer requirements.
This can create organizational problems due to not knowing what bookkeeping needs you should track. In most cases, you'll have to depend on your own financing sources, such as savings, home equity or family loans. If your business will be owned and operated by several individuals, you'll want to take a look at structuring your business as a partnership.
Partnerships come in two varieties: general partnerships and limited partnerships. In a general partnership, the partners manage the company and assume responsibility for the partnership's debts and other obligations. A limited partnership has both general and limited partners. The general partners own and operate the business and assume liability for the partnership, while the limited partners serve as investors only; they have no control over the company and are not subject to the same liabilities as the general partners.
Unless you expect to have many passive investors, limited partnerships are generally not the best choice for a new business because of all the required filings and administrative complexities. If you have two or more partners who want to be actively involved, a general partnership would be much easier to form. One of the major advantages of a partnership is the tax treatment it enjoys.
A partnership doesn't pay tax on its income but "passes through" any profits or losses to the individual partners. At tax time, each partner files a Schedule K-1 form, which indicates his or her share of partnership income, deductions and tax credits. In addition, each partner is required to report profits from the partnership on his or her individual tax return.
Even though the partnership pays no income tax, it must compute its income and report it on a separate informational return, Form Personal liability is a major concern if you use a general partnership to structure your business.
Similar to a sole proprietorship, general partners are personally liable for the partnership's obligations and debt. In addition, each general partner can act on behalf of the partnership, take out loans and make business decisions that will affect and be binding on all the partners if the general partnership agreement permits.
Keep in mind that partnerships are more expensive to establish than sole proprietorships because they require more extensive legal and accounting services. Protect yourself and your business with a partnership agreement. Starting a business with a partner? It may be difficult to talk about problems during your honeymoon stage, but that's exactly when you should.
A written partnership agreement helps guide you when questions arise. According to W. Thurston Debnam Jr. Debnam recommends that every business partnership-regardless of the relationship of the individuals-begin with a written agreement. But there's another reason for a partnership agreement.
Using the corporate structure is more complex and expensive than most other business structures. A corporation is an independent legal entity, separate from its owners, and as such, it requires complying with more regulations and tax requirements.
The biggest benefit for a small-business owner who decides to incorporate is the liability protection he or she receives. A corporation's debt is not considered that of its owners, so if you organize your business as a corporation, you're not putting your personal assets at risk. A corporation also can retain some of its profits, without the owner paying tax on them. Another plus is the ability of a corporation to raise money.
A corporation can sell stock, either common or preferred, to raise funds. Corporations also continue indefinitely, even if one of the shareholders dies, sells the shares or becomes disabled. The corporate structure, however, comes with a number of downsides. A major one is higher costs. Corporations are formed under the laws of each state with their own set of regulations.
You'll probably need the assistance of an attorney to guide you through the maze. In addition, because a corporation must follow more complex rules and regulations than a partnership or sole proprietorship, it requires more accounting and tax preparation services.
Another drawback: Owners of the corporation pay a double tax on the business's earnings. Not only are corporations subject to corporate income tax at both the federal and state levels, but any earnings distributed to shareholders in the form of dividends are taxed at individual tax rates on their personal income tax returns.
To avoid double taxation, you could pay the money out as salaries to you and any other corporate shareholders. A corporation is not required to pay tax on earnings paid as reasonable compensation, and it can deduct the payments as a business expense. Keep in mind, however, that the IRS has limits on what it believes to be reasonable compensation. How to Incorporate To start the process of incorporating, contact the secretary of state or the state office that is responsible for registering corporations in your state.
Ask for instructions, forms and fee schedules on business incorporation. It's possible to file for incorporation without the help of an attorney by using books and software to guide you along. Your expense will be the cost of these resources, the filing fees, and any other costs associated with incorporating in your state.
0コメント