The decision to start a business should not be taken lightly. If you’ve never started a business before, then it’s unlikely that you can fully comprehend the journey on which you’re about to embark. If you have started a business in the past, then you already understand.
The United States Small Business Administration has a list of 20 questions that every budding entrepreneur needs to ask of her or himself before starting a business. We are going to cover just one of those questions in this article.
Type of Entity
Do you know what type of entity best suits your management style and the needs of your business? Which entity will allow you to easily raise capital if you ever want to take out a business loan or sell off an equity stake in your business?
When it comes to selecting the appropriate type of entity for your business, there are a number of choices. Limited liability companies, corporations, partnerships, and sole proprietorships are all options.
What to Look For
Limited Liability
The most important attribute any business owner needs is limited liability. The point of having a business entity is to create a barrier between your personal assets and the assets owned by your business. Limited liability companies, corporations, and certain types of partnerships created by state statutes limit a business owner’s liability to the extent of her or his investment. Sole proprietorships and general partnerships do not offer limited liability.
For example, if you invest $10,000 in a new business and that business gets sued or defaults on a business loan that you have not personally guaranteed, the most you stand to you lose on the default or in the lawsuit is $10,000. Neither the bank nor a person who has sued you can come after your personal assets, assuming you have formed, maintained, and operated your business correctly.
Take a moment to let that sink in, because you are under a lot of pressure to get it right. Your personal assets may be at stake if you don’t.
Control
It comes as a surprise to many that they may not control their business. A corporation, for example, is controlled by a board of directors. Now, you may be on the board of directors—you may even be the entire board of directors, but to take action on business related matters will require you to jump through some formal hoops. That means writing out corporate resolutions, keeping minutes of meetings, and holding annual shareholder meetings. Other business entities such as limited liability companies have fewer formal requirements.
Tax Elections
Ever hear of an S-corporation? An S-corporation is not a specific type of corporation. Rather, the “S” refers to sub-chapter S of the Internal Revenue Code. An S-corporation is just a regular corporation that has made a tax designation or “S-election.”
An S-election may or may not fit your needs. In order to qualify for sub-chapter S, corporations have to make certain sacrifices. For example, S-corporation can only have a limited number of shareholders and they generally cannot be owned by other corporations. That means that if you ever want to sell your business, you might have to make some significant, costly changes to an S-corporation.
The upshot to an S-election is that it saves a huge chunk of money on employment taxes, which currently run about 16% of a company’s first $100,000 of income.
Something that not many people know is that sub-chapter S isn’t just reserved for corporations. Limited liability companies can choose to be taxed as S-corporations too and take advantage of similar tax savings!
You’re Not Alone
We’ve barely touched the tip of the iceberg in this article. The choices regarding business entities are enormously complex and have consumed volumes of legal books. Our purpose is not to explain every little detail but, rather, to take care of the details for you the right way—the way that best suits your needs.
The Parents Estate Planning Law Firm, PC
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