One of the very first decisions you will need to make when starting a business is the type of structure under which it will operate.
Your company’s legal structure will affect it in many ways, including how much you pay in taxes, the personal liability you face, how much money you will be able to raise and how much paperwork for which you will be responsible.
The following is a quick overview of the most common forms of business entities:
Partnership: A partnership features two or more people coming together to share in a new company’s profits and losses. Partnerships do not have to address the burden of taxes on profits or tax benefits for losses. Instead, all profits and losses go to the partners, who report them individually on their own federal tax returns. The drawback is, once again, related to the liability the partners face. Each partner is personally responsible for all the company’s financial obligations.
Corporation: This is a legal entity that is separate from the founders who handle the organization’s responsibilities. A corporation is taxed like any individual person and bears the legal liability for its actions. The primary benefit of a corporation is that it limits tax liabilities on individuals. One of the most common types of corporations is an “S-corp,” which can prevent double taxation and establish the organization as a separate entity from the people who own it.
Limited liability company (LLC): In many ways, an LLC is a combination of a partnership and corporation. This structure has become more popular in recent years due to its ability to allow owners to benefit from both the corporation and partnership aspects. Profits and losses get passed through to the owners without taxation to the business. Meanwhile, owners are shielded from any personal liability for the company’s financial obligations.
Ultimately, the legal entity you select for your business depends on the extent to which you need to be shielded from legal liability, how you can best minimize taxation, the cost of formation and the flexibility and future needs of your company.
Take your time to research each of these entities carefully before making your decision, as the choice you make will have a significant impact on your company moving forward. If you have any questions, be sure to consult an experienced financial professional to go over the various options.
Patin & Associates assists with a wide range of business formation issues, including the selection of the right entity for your company.