Choosing the Right Business Structure
You have an idea and you are ready to make your move. You have a cool name for your business and you are ready to go make it work. At this point, don’t get in a hurry – we suggest you slow down and really consider how you want to set your business up initially and what business structure will benefit you the most.
Of all the choices you make when starting a business, one of the most important is the type of legal structure you select for your company. It is true that you can change it later, but it’s important to get it right from the beginning. Not only will this decision have an impact on the amount of taxes you pay, but different types of entities affect the amount of paperwork you encounter, tax filing requirements, as well as the amount of personal liability.
There are three important things to consider during this decision:
- Entity choice begins at the state level – organize in the state you plan to operate.
- Your choice of business entity may be different from your tax entity.
- What are your plans on compensating yourself and paying others.
Types of Entities include:
- Sole Proprietorship is the most common, easiest when it comes to paperwork and tax filings, but offers little protection in the form of legal liability and exposure to your personal assets.
- Partnership is if you have more than one owner who share in the profits and losses of the company, moderate when it comes to paperwork and tax filings, and can be formed in such a way to reduce legal liability and exposure to your personal assets.
- Corporation is a legal entity created to conduct business. The key benefit of corporate status is the avoidance of personal liability. The drawback is the administration required regarding paperwork and tax filings can be complex.
- Small Business Corporation (S-Corp) is a corporation or LLC that elects to be taxed as a small business corporation. Administration required regarding paperwork and tax filings is complex. Key benefits are avoidance of personal liability, single layer taxation as a pass-through tax entity, and the ability to accumulate earnings while reducing your tax liability.
- LLC is a state formed entity and it protects your personal assets. Upon formation, an LLC must elect its tax entity type – it must decide whether to be taxed as a Sole Proprietor, Partnership or Corporation. This decision is key in the planning stages as you match up your specific situation to the benefits offered by each as well reducing your overall tax liability.
Choosing the right business entity can provide many advantages over time. And when things happen, like the recently passed Tax Cuts & Jobs Act of 2017, new tax strategies and planning opportunities develop. Choosing the right business entity at inception or right now is more important than ever.
Eric T Hersman CPA July 2018