Wednesday, July 26, 2017
Starting a New Business Part 4: Choosing A Business Structure
Of all the choices you make when starting a business, one of the most important is the type of legal structure you select for your company. Not only will this decision have an impact on how much you pay in taxes, it will affect the amount of paperwork your business is required to do, the personal liability you face and your ability to raise money.
It's not a decision to be entered into lightly, or one that should be made without sound counsel from business experts. It's important for business owners to seek expert advice from business and legal professionals when considering the pros and cons of various business entities. That advice can come from a variety of sources, ranging from the no cost/low cost, such as the SBA, to professional attorneys and accountants who can serve as valuable sources of information throughout the life of your business.
The decision should be based on several factors:
1. Legal liability
To what extent does the owner need to be insulated from legal liability? You need to consider whether your business lends itself to potential liability and, if so, if you can personally afford the risk of that liability. If you can't, a sole proprietorship or partnership may not be the best way to go. The protection of personal assets as the number-one reason many choose to incorporate. In case of a lawsuit or judgment against your business, no one can seize your personal assets. It's the only rock-solid protection for personal assets that you can get in business.
2. Tax implications
Based on the individual situation and goals of the business owner, what are the opportunities to minimize taxation? There are many more tax options available to corporations than to proprietorships or partnerships. Double taxation, a common disadvantage often associated with incorporation, can be avoided with S corporation status. An S corporation is available to companies with less than 70 shareholder returns. Business losses can help reduce personal tax liability, particularly in the early years of a company's existence.
3. Cost of formation and ongoing administration
Tax advantages, however, may not offer enough benefits to offset other costs of conducting business as a corporation. The high cost of record-keeping and paperwork, as well as the costs associated with incorporation, as one reason that business owners may decide to choose another option--such as a sole proprietorship or partnership. Taking care of administrative requirements often eats up the owner's time and therefore creates costs for the business.
Your goal is to maximize the flexibility of the ownership structure by considering the unique needs of the business as well as the personal needs of the owner or owners. Individual needs are a critical consideration. No two business situations will be the same, particularly when multiple owners are involved. No two people will have the same goals, concerns or personal financial situations.
5. Future needs
When you're first starting out in business, it's not uncommon to be "caught up in the moment." You're consumed with getting the business off the ground and usually aren't thinking of what the business might look like five or ten years down the road. What will happen to the business after you die? What if, after a few years, you decide to sell your part of a business partnership? While a sole proprietorship or partnership may dissolve upon the death of its owner or owners, a corporation can be readily distributed to family members.
Keep in mind that the business structure you start out with may not meet your needs in years to come. Many sole-proprietorships evolve into some other form of business, like a partnership or corporation, as the company grows and the needs of the owners change.
Businesses may be structured in a variety of ways, each with its own advantages and disadvantages. Coming up, we'll give a brief overview of some of the more common business structures.