So you are looking to start a business in 2012. Of all the decisions you make when starting a business, one of the most important decisions you will make is the type of legal structure you select for your company. This decision will impact how much you pay in taxes, the amount of paperwork your business is required to do, as well as your personal liability.
The most common forms of business are sole proprietorship, partnership, corporations (both C and S corporations) and the limited liability company (LLC). Because each business form comes with different tax consequences and liability exposure, you will want to make your selection wisely and choose the structure that most closely matches your business's needs.
Neither the sole proprietorship or the partnership require any true formal documents or structure to be set up, which makes them very appealing to someone starting a new venture. However, there is a serious downside to both of these arrangements. The sole proprietor and partners in a partnership are personally liable for the businesses’ obligations and debts.
Unlike the sole proprietorship or the partnership, a corporation is an independent legal entity, separate from its owners, and as such, it requires complying with a few more regulations and tax requirements. However, the biggest benefit for a 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 are not putting your personal assets at risk.
There are two basic types of corporations, the C corporation and the S corporation. Both types of corporations provide liability protection, but they are taxed very differently and subject to different restrictions. For example, an S corporation has limits on the number and types of shareholders it may have.
A C corporation first pays income tax on its profit at the corporate level and then the shareholders (the business owner) pay income taxes a second time when he or she pulls the profit out of the C corporation as a dividend. This results in the C corporation’s profits being subject to double taxation when they are paid out to the shareholders.
An S corporation is only subject to one level of taxation, as its profits and losses are said to “pass-through” directly to the shareholders. Therefore, when the S corporation makes a profit its income is reported directly on the shareholder’s tax return. The advantage of making an election to have a corporation taxed as an S corporation is that there is only one level of tax, but the downside is that the shareholders pay tax on the S corporation’s profits whether they are paid out or retained inside the business.
The most common structure for a new business these days is the Limited Liability Company (LLC). The LLC has become very popular because it is provides liability protection to the business owners, is taxed as a pass through entity and is much more flexible than a corporation. That is not to say it is best structure, as each business and business owner has very specific business and tax issues that should be considered.
The business attorneys at Phillips Law Firm, Inc. have the experience to guide you through the process of starting your business and choosing the right business structure. To arrange for a free initial consultation call at 513-985-2500 or email us at info@PhillipsLawFirm.com.
The article is for educational and informational purposes only and does not constitute legal advice. Anyone contemplating taking legal action is urged to obtain proper legal advice from an attorney licensed in your particular jurisdiction.