When beginning a business, you must decide what form of business entity to establish. The business structure you choose influences everything from day-to-day operations to taxes and how much of your personal assets are at risk. You should choose a business structure that gives you the right balance of legal protections and benefits. The most common forms of business are the sole proprietorship, partnership, corporation, and S corporation. A Limited Liability Company (LLC) is a business structure allowed by state statute. Legal and tax considerations enter into selecting a business structure.
Review common business structures
Sole Proprietorships: The most basic form, in which one individual owns and operates a firm that has not been incorporated in any way under state law. You may file your company taxes at the same time as your personal taxes. You, on the other hand, are totally responsible for the conduct of your company, including your personal assets. This is due to the fact that this structure is not regarded as a distinct entity from its owner. This does not need a state filing fee, making it a low-cost option.
General Partnerships: A partnership is created when two or more people join forces to start a business. In most cases, a partnership agreement is utilized to specify each partner's position in the organization as well as their investment. General partnerships do not need to file any formal company documents; they can form when two persons agree to collaborate. The business's obligation is assumed by the general partners. Limited partnerships are easier to create than unrestricted ones. A state filing fee is also not required for partnerships.
Limited Partnerships: When two business partners (referred to as "general partners") form a partnership, they usually look for more partners (referred to as "limited partners") to join them in the enterprise. Limited partners have no liabilities outside of their investments (unless they agree differently) and have few if any, managerial rights. Limited partners just provide a large portion of the funds. These partnerships are more expensive to establish, and they are frequently utilized for "one-time" tasks.
Corporations: Because these structures are different entities, the creation becomes more complicated. A corporation is formed when anything of value, such as money or property, is traded for shares in a firm. This allows a company to generate funds on its own, which might be enticing to entrepreneurs. Corporations must also provide particular legal papers to government bodies. Many entrepreneurs choose companies because they provide liability protection: only the corporation's assets are at danger, not personal income or assets. Owners of companies face double taxation on any company revenues: the corporation is subject to state and federal income taxes, and earnings transferred to shareholders (through dividends) are taxed at individual tax rates on their personal returns.
S Corporations: These business arrangements offer the best of both worlds: a lower tax rate and liability protection. All profits and losses of S Corporations are 'passed through' to shareholders, who subsequently report them on their individual tax returns (only getting taxed once at the federal level). This permits shareholders to declare their profits and losses on their own tax returns and pays tax at their individual rates. However, these types of enterprises require a lot of paperwork, which can result in greater overhead expenses.
Limited Liability Company (LLC): These are hybrid arrangements that combine the finest aspects of a partnership and a corporation. LLCs are governed by each state, thus any firm considering forming one should double-check their state's creation requirements. LLCs have the same liability protection as corporations, but they are not subject to double taxation. There are no restrictions on who can own the company; there can be an infinite number of shareholders, including corporations and international firms or individuals (S corporations are limited to 100 shareholders). These members are also given full access to the company's activities. LLCs must also follow fewer operating requirements than corporations, at least as compared to corporations. In most states, insurance firms and banks are prohibited from founding LLCs.
Non-Profit Corporation: Companies created only for the purpose of seeking donations to support philanthropic, educational, literary, religious, or scientific aims are known as non-profit corporations. Non-profit corporations are often free from both state and federal taxes, and their board of directors governs the organization and decides how to receive and distribute donations in accordance with its charter. It is given special consideration by the law since it serves the general population. They are, however, limited in certain of their operations by the IRS (such as not being able to contribute to or intervene in political campaigns).