The two most popular types of business in the United States are sole proprietorships and corporations. Sole proprietorships have a lot going for them, including simplicity and low cost. However, there are some drawbacks that you need to know about before deciding whether this is the right choice for your new business.
A corporation has many benefits too, but it’s more complex to set up and will likely be more costly when all is said and done. You’ll also need an attorney or accountant who specializes in corporate law because it requires a different type of formal legal structure from what a sole proprietor needs. On top of these complications, corporations also face higher taxes than do sole proprietorships. If you’re thinking about incorporating your business at some point in the future, there are several things you need to know about starting a corporation.
1. One Form of Structure You Can Use for Your Corporation
While most corporations begin with an attorney, this isn’t required by law. Many new businesses opt to use a form of a business structure called a limited liability company (LLC). An LLC is a type of organization that combines the pass-through taxation of a sole proprietorship or partnership with the limited liability protection of a corporation, you can read more here. This sounds complicated, but it’s what makes an LLC so attractive to budding entrepreneurs. An LLC allows you to take advantage of some of the benefits and drawbacks (discussed below) associated with both structures without having to hire an attorney or file complex paperwork.
2. A Sole Proprietorship Can Be Easier than an LLC for Some Businesses
Most businesses that will operate as a sole proprietorship don’t need to meet the requirements necessary to create an LLC. This includes having multiple members, which is one of the benefits of an LLC versus a sole proprietorship. It’s possible for a business to qualify as an LLC without having more than one member, but it’s more complex and will cost more in legal fees. This is why many new entrepreneurs are better off starting a sole proprietorship for their businesses.
3. An LLC Offers Liability Protection Like a Corporation
That said, most business owners turn to an LLC because of the liability protection that it offers and the pass-through taxation. As the name implies, an LLC limits the liability of its owners. This means that, unlike a sole proprietorship or partnership, you aren’t personally liable if someone gets hurt because of something your business did. With this in mind, you need to know that there are two types of limited liability companies:
A single-member LLC provides this protection to just one owner. This is the most common type of LLC in the United States, which means many businesses are actually limited liability companies, even if they don’t realize it.
A multi-member LLC typically has at least two members (this can be other people or corporations). Each member shares responsibility for the company’s debts and legal obligations, just as they would in a partnership.
4. The LLC Pass-Through Taxation Advantage
The final reason why so many businesses choose an LLC is because of pass-through taxation. When you have an LLC, the company’s profits are passed through to the members and taxed on their personal tax returns. This means that unlike with a corporation, all profits will be taxed at your individual income rate. The best part is that you can often use losses (if there are any) to reduce the impact on your business’s profits. This is very different from what happens with an S corporation or C corporation because it means that LLC members avoid double taxation.
If you’re in the market for a business structure that combines liability protection and pass-through taxation, an LLC may be your best option. There are some drawbacks to consider when choosing this type of company, though. For example, if there is more than one owner involved with the company (even if they aren’t people), it becomes much more complex to file taxes according to what’s called “pass-through taxation.” You’ll also need an attorney or accountant who specializes in corporate law because it requires a different type of formal legal structure from what a sole proprietor needs. On top of these complications, corporations also face higher taxes than do sole proprietorships. If you’re thinking about incorporating your business at some point in the future, there are several things to consider as well. For example, your company can’t be an LLC and a corporation at the same time. The best way to find out what the best option is for your business (and your taxes), consult an attorney or accountant.
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