Forming a business entity is a big step. When you incorporate your business you have four basic entity types to choose from that will determine how your business is structured. They are sole proprietorship, partnership, corporation, and limited liability company (LLC). Choosing the right business entity can have enormous tax, liability, and estate planning consequences. Each one has its advantages and disadvantages, there isn’t one “best” business entity. Business owners have to select the structure that best fits their needs.
Selecting the Right Business Entity
So how do you go about determining which entity is right for your business? Determining how to incorporate your business essentially comes down to four main considerations:
Legal Liability
Protection of personal assets is the number one reason business owners decide to incorporate. Business owners need to consider how much of a liability risk they are willing to take on personally. If you personally cannot afford the risk, a sole proprietorship or partnership might not be the best business structure for you.
Tax Planning
For business owners, it is important to evaluate all opportunities to minimize taxation. LLCs and corporations offer more tax options than proprietorships or partnerships. LLCs can elect to be taxed either as a “disregarded entity”, which is similar to being taxed as a sole proprietor or as a corporation. Filing as an S corporation can eliminate double taxation and also reduce the amount of self-employment tax you have to pay.
Cost of Formation & Ongoing Administration
The cost of formation and ongoing costs of conducting a business as a corporation need to be considered before selecting your business entity. There can be high costs of record-keeping, time-consuming paperwork, and reporting requirements. Tax advantages are great, but not if they don’t offer enough benefits to offset these costs.
Future Needs
As a business owner, you want to have enough flexibility with your business structure to account for changes within the business. Do you want the business to survive after your death? In a sole proprietorship, the business ends upon the death of the owner. However, in other business structures, the business can continue on. What if you decide to sell your part of a business partnership? These questions should be considered before choosing a business entity.
Deciding which entity is right for your business is an important decision. Do not take it lightly. Take the time to research the benefits and advantages of each structure type, reflect on the unique needs of your business and its owners, and seek professional legal and tax advice before settling on a particular business format. Start the incorporation process by signing up with a free 30-minute consult with one of our business tax professionals.
