There are probably hundreds of questions that are running through your mind as you sort out the details for starting your new business. However, one of the most important, confusing and potentially costly questions could be what type of entity should you register as. What is the difference between forming an LLC vs. a corporation?
- Why Should I Pick A Business Entity?
You might have a small company that is run out of your home or maybe you have a growing number of online clients who are in need of your technology skills. As your business grows, so does your need to file with your secretary of state to become an official business entity. Here are four important reasons why you should look into becoming a business entity:
- It provides protection to your rights and assets should conflicts arise.
- It could save you money on taxes.
- If you have others running or contributing to your business, legal documentation could help if a dispute arises.
- It creates a more professional image and gives customers increased confidence in buying your products or using your services when you have an “official” business name that’s registered.
- What Are My Business Entity Choices?
There are basically four types of business entities to choose from:
- Limited Liability Company (LLC)
- S Corporation (S Corp)
- C Corporation (C Corp)
For-profit business owners choose an LLC, S Corp or C Corp, so let’s discuss those:
- Why Would I Choose an LLC?
An LLC is formed and regulated at the state level and is the most popular type of business entity chosen by small businesses for several reasons including that they are easy and inexpensive to set up, it uses a simple business structure and there are fewer restrictions to abide by. Another reason why small business owners choose to be an LLC is that their personal assets are protected. Let’s say that you accrued bills that you couldn’t pay or that you have lawsuits filed against your company. Instead of having your home or personal savings at risk, your company will be responsible the liabilities. Questions to ask yourself if an LLC is right for your business might include:
- Do you want your business to appear more professional? An LLC helps your business appear to others as more official when you’re formed and registered with the state. For clients, this can allow them to feel like you’re in this for the long-haul and won’t be dissolved within the year.
- Are you prepared for tax implications? Forming an LLC will look different come tax season. The benefit is you can avoid paying self-employment taxes. However, you will likely need an accountant and accounting software because filing is a lot more complicated than as an employee of a company with one W-9.
- Do you need to protect your personal assets in case of legal action? Do you work in a business that could possibly lead to an accident or mistake on your behalf? Perhaps someone gets an infection at your spa, or a website crashes and loses valuable business for a client. An LLC will help protect your personal assets — just remember to keep your personal and business expenses separate.
- Are you and a business partner ready for some legal paperwork? If you have a business partner, it might be too early to put pen to paper and solidify a relationship. But, it could also help you provide structure to the business and an understanding of roles and what to do in case business goes sour.
- Why Would I Choose an S Corp?
S Corps are similar to LLCs in that they are formed and regulated at the state level and personal liability of the owner is separate from the company. An S Corp differs in that there are more regulations and rules to follow and corporate structures are a bit more intricate than if you chose an LLC. Here are questions to ask yourself to decide if an S Corporation is right for your business:
- Are you not yet profitable? If yes, than an S Corp is a great choice because you can pass business losses directly to your individual tax return.
- Does your business qualify to be an S Corp? There are a few criteria to check off, so make sure that: you don’t have more than 75 shareholders, all of whom are U.S. citizens and permanent residents, and you only plan to issue one type of stock to everyone.
- Why Would I Choose a C Corp?
Also formed and regulated at the state level and providing protection for personal assets, this is the most formal and intricate form of a business entity. A C Corp requires that stocks be issued, annual meetings are scheduled and a board of directors is designated. Questions to ask yourself if this is the right business entity might include:
- Is my business profitable? A general rule of thumb is that C Corporations are best when your business is making a minimum $100,000 a year. If your business is profitable, then C Corporations start to really pay off because they are the only business entity where you can leave profits within the business and then make purchases using the corporate profits. These profits are then taxed at a substantially lower rate than personal income — often close to half of personal income tax percentages. This practice is called income splitting.
- Do you have more than 75 shareholders and want to raise business capital? If so, a C Corporation is your only business entity option to allow this.
- Do you want a retirement and medical plan for yourself and employees? A C Corp is the only business entity that allows you to offer these types of benefits and have them be tax deductible from the corporate income.
- Do you want to open different classes of stock or voting rights to shareholders? A C Corp is the only type of business entity that will allow you to delegate different types of privileges to different shareholders
Author Bio – Dustin Ray
Dustin Ray leads business development and growth initiatives at Incfile, a national document filing service company specializing in the formation of business entities. Founded in 2004, Incfile had assisted in the formation of more than 100,000 Corporations and LLCs. For only $49 a month + state fees, Incfile can help you easily and quickly form your LLC and start your business today.