Starting a new business is one of the most exciting ventures you can undertake. But in the midst of all the excitement, you should carefully choose what type of business you form. Your main choices include the following:
- Sole proprietorship
- Limited Liability Company (LLC)
Factors To Consider
- Do you want to share ownership in your business?
- How much personal liability do you want to assume for your business’s debts and any unfavorable judgments others may obtain against it?
- How much ongoing paperwork and compliance issues do you want to engage in?
- How do you want your income taxes and those of your business computed?
If you intend to own your business all by yourself, a sole proprietorship is the simplest business form. In fact, you need to do nothing in order to establish one. Simply start selling your product or services. In a sole proprietorship, you and your business are one and the same. This means, however, that you are personally responsible for paying income tax on whatever profits your business makes and must add a Schedule C to your 1040 federal tax return. It also means that you are personally responsible for paying all of your business’s expenses, debts and judgments.
If you want or need to share ownership with one or more additional people, forming a partnership is one way to go. Here you will need a written partnership agreement setting forth each partner’s ownership interest, as well as what responsibilities and liabilities he or she will have. Keep in mind that, although a partnership must file an annual informational federal income tax return, its profits and losses pass through to the partners. Each one pays his or her own percentage of tax.
If limited personal liability is one of your major goals, forming a corporation can achieve it. Why? Because a corporation is a separate legal entity, distinct from the shareholders who own it. Consequently, no shareholder bears responsibility or liability for paying the corporation’s expenses, debts, or judgments. On the other hand, a corporation subjects you to double taxation, first at the corporate level and subsequently on the individual level. In addition, virtually all states require your corporation to hold, at minimum, an annual meeting and to keep minutes of all your meetings.
Limited Liability Company
An LLC combines the advantages of both a partnership and a corporation. With this business form you avoid double taxation while preserving your limited liability.