What Is Business Structuring?
Business structuring is a process of deciding which type of business entity one should start out with. There are several types, including sole proprietorship, partnership and corporation. Business structures can be changing and can impact how a business operates.
Choosing a Business Structure
When starting a business, it is important to choose the right type of business structure. This decision will have a big impact on the liability of the owners and the ease of doing business. There are many types of business structures to choose from, but most business owners choose the LLC.
Liability protection is one of the key reasons businesses choose to form an LLC. Owners are protected from personal liability for debts and lawsuits against the company. This legal separation between personal assets and the business is crucial for businesses that carry any amount of risk.
Another advantage of LLCs is their simplicity. They are easy to form and inexpensive to maintain. In addition, LLCs offer more protection from creditors and lawsuits than other types of business structures such as sole proprietorships or partnerships.
Review common types of business structures
The sole proprietorship is the simplest legal structure of a business. It is a type of business entity that does not produce a separate legal entity. Sole proprietorships are still able to get a trade name, which will allow them to be audited by the IRS and have their own unique tax ID number. Sole proprietorships file taxes as an individual and can potentially be held liable for all debts incurred by the business in addition to personal liabilities. Sole proprietorships can be a good fit for low-risk businesses. Banks are hesitant to lend to sole proprietorships because it is difficult to raise money in this type of structure
Partnerships are a type of business organizational structure that allows two or more people to work together and share profits and losses. A partnership can be defined by state laws, but the Uniform Partnership Act governs most states. The partnership income/loss passes through to the partners without any taxes levied on partnerships as a whole.
A partnership agreement defines the different levels of risk between partners. Partner withdrawal, buy and sell arrangements, and liquidation agreements are defined in a partnership agreement. Partnerships can be complicated, with a lot of potential problems. This is why it is important to make sure you understand your partnership agreement as well as the other party’s before signing anything.”
Limited liability company (LLC)
The LLC combines the benefits of both the corporation and partnership business plan structure. Members of an LLC are considered self-employed, with a limited life span in many states. The personal assets are protected from liability, with profits and losses passed through to personal income without corporate taxes being paid. This can be a good choice for owners who want to pay less tax than with a corporation. LLCs may also be dissolved and reformed, depending on state requirements. They are beneficial when members have significant personal assets that need protection.
A corporation is a type of business entity that is recognized by the law. The highest level of protection from personal liability is offered to corporations, but they require more extensive record-keeping and reporting than other structures. Corporate profits can be taxed twice – once at the corporate level and again when distributed to shareholders. A corporate structure has certain advantages in terms of capital raising and attracting employees. For example, potential investors may be more likely to invest in a company that is structured as a corporation than one that isn’t. Additionally, employees may be more likely to join a corporation because they typically have more job security than those who work for sole proprietorships or partnerships.
There are two types of regular corporations: C corps and S corps. A C corp is the most common type of regular corporation – it’s what comes to mind when most people think about a “corporation”. C corps are subject to double taxation – once at the corporate level and again when profits are distributed among shareholders as dividends. This means that the income earned by a C corp is taxed twice, which can result in significant financial losses for the company. An S corp was created in order to avoid the double taxation of regular C corps. S corps allow profits and losses to be passed through to shareholders without ever being subject to corporate tax rates.
There are some limits on S corps that aren’t required for C corps. For example, an S corp can have no more than 100 shareholders and they must all be individuals (not other corporations). In addition, an S corp is limited in the types of business it can engage in – it cannot operate as a financial institution, for example.
A small company with no board of directors may choose to establish itself as a close corporation. A close corporation is very similar to a regular C corp in many ways, but there are a few key distinctions. Close corporations have some distinctions that the C corporation doesn’t, such as shareholders being liable for company obligations.
Nonprofits are organizations that do charity, education, religious, literary or scientific work, and they are recognized by the law as such. Nonprofits don’t typically generate profits as regular businesses do – instead, they rely on donations from individuals or organizations. Because nonprofits don’t operate for profit, they are exempt from paying income taxes. However, in order to be exempt from taxes, nonprofits must file with the IRS to get tax-exempt status. Additionally, nonprofits must follow organizational rules very similar to a regular C corp, but they also need to follow special rules like not distributing profits for members or political campaigns.
Most nonprofits are called 501(c)(3)s because that is the section of the Internal Revenue Code which grants them tax-exempt status. This means that any donations made to a 501(c)(3) nonprofit are tax-deductible for the donor.
A cooperative is a business that is owned by its users, typically has an elected board of directors, and offers democratic ownership structures. Members can become part of the cooperative by purchasing shares, though the amount of shares they hold does not affect the weight of their vote. Cooperatives are businesses with a social mission – profits don’t go towards shareholders but to the cause or purpose of the cooperative. Cooperative ownership is user-owned rather than shareholder-owned, which means it’s different from nonprofits in that they do not offer democratic ownership structures.
Sole Proprietorship and Partnerships
Sole Proprietorship or Partnership When Structuring A Small Business
Informal structures, such as sole proprietorships and partnerships, are best for businesses with a low potential for liability or financial loss. These structures are simple to set up and maintain, which is a major advantage. However, they have a smaller customer base and often start as hobbies like photography, blogging, or video streaming.
Sole proprietorships and partnerships are risky business ventures, with no personal liability protection. There are also zero tax benefits for businesses in these structures. Unless the company has little to no growth potential, sole proprietorship and partnerships are not viable options. A sole proprietor or partnership must deal with a high tax burden, lack of liability protection, and limited branding opportunities.
LLCs and Corporations: Formal Business Structures
There are a few different types of business structures that you can choose from when starting your company. The most common are LLCs and corporations. Each one has its own set of benefits and drawbacks, so it’s important to understand what they are before making a decision.
An LLC, or limited liability company, is a simple way to protect your personal assets in the event of a loss. This is because the company is separate from its owners in legal terms. If something goes wrong with the business, the owners’ personal assets are not at risk.
A corporation offers more protection than an LLC. This is because shareholders (the people who own the corporation) are not personally liable for any debts or losses the company may incur. In other words, if the corporation goes bankrupt, the shareholders will not have to pay anything out of their own pockets.
One downside to forming a corporation is that it can be more difficult to get started than an LLC. You need to have outside investors willing to buy shares in order for the corporation to be legally recognized.
Setting up an LLC is easy- all you need is a registered agent and some basic paperwork filed with your state government. An LLC allows clients to experience a high level of flexibility by doing whatever they like.
However, setting up a corporation is more complicated and expensive than an LLC. You need to file articles of incorporation with your state government and create bylaws that specify how the company will be run. Corporations also have to hold annual meetings and keep track of shareholder information.
Both LLCs and corporations offer unique tax options, which are worth considering if your business is profitable enough to warrant them. For example, you may be able to save money on taxes by forming a corporation instead of an LLC.
An LLC can protect the personal assets of its owners. This means that if the business fails, the owners’ personal assets are not at risk. But it won’t necessarily protect them from liabilities such as loans, lawsuits and fines.
LLCs and corporations require less paperwork than other formal structures like partnerships or sole proprietorships. They can also be customized to fit a company’s specific tax situation.
Formal business structures offer more potential for growth than informal businesses, with fewer legal restrictions on company actions. In addition, they often have greater trust and credibility behind them because they are recognized by the government as legitimate business entities. The complications of the various corporate transactions and the laws around running a corporation can be very difficult to manage. This is why it is best to have a lawyer experienced in corporate transaction law to handle any legal details for your corporation.
Choosing Between an LLC and Corporation
When To Form an LLC
A limited liability company is a good way to go if you want to minimize the potential for investors taking a large stake in your business and plan to reinvest most of the profits back into the operation. Most businesses carry very little profit from one tax year to the next, so an LLC would be a great option for these types of companies. For a business that’s looking to grow, an LLC would be an avenue worth exploring. This will give it more stability and allow it to elect the S corporation tax classification and pass-through taxation. An LLC does not pay taxes because it is a legal entity; its income is subject to FICA taxes, which are charged on all distributions of money or property by the business entity to its members. A corporation’s profits are taxed and then paid as dividends, with both income tax and FICA taxes applied at 21%.
When to Form a Corporation
There are several instances where it might be advantageous to form a corporation rather than an LLC. These include:
- When you need to do business internationally- In order to do business in other countries, you will likely need to register your company as a corporation.
- When you have multiple shareholders- If you have more than one owner, then a corporation is the better option.
The difference in the way corporations and LLCs are treated by the IRS- Corporations are subject to more regulations and rules than LLCs, which can be advantageous in some cases. For example, corporations can write off certain expenses that LLCs cannot.
If you need to attract venture capitalist or investors- A corporation is more likely to be successful in attracting these types of investors than an LLC.
There are also several instances where forming a corporation makes less sense than using an LLC. These include:
- LLC members pay FICA taxes, which are higher than the 15% corporate rate.
- A complex business structure has a higher cost-benefit ratio than an LLC.
In general, however, LLCs are simpler and easier to manage than corporations and do not require help from lawyers or accountants, which can save businesses money in the long run.
S Corporation Tax Designation
When to Elect the S Corp Tax Designation
The S corporation designation offers a number of tax benefits for business owners and the company. However, not every business is eligible to file as an S corp. The IRS requires that S corporations meet certain requirements, including:
- A “reasonable salary” paid to the owners;
- Significant distributions year over year;
- Positive return on investment for payroll service costs.
If your LLC meets these qualifications, you should consider electing S-corporation status. Keep in mind that there are also some drawbacks to this tax classification, so make sure you understand the implications before making a decision.
When To Use The Default LLC Classification
The default LLC tax classification should be chosen if the owner wants to invest in the business. This allows them to take advantage of certain benefits, such as:
- Liability protection;
- Ease of administration and compliance; and
- Flexibility in management and operation.
However, there are a few instances where electing an S corp is more beneficial:
- If the owner(s) can afford to pay themselves a salary;
- If their business meets IRS S corp requirements (i.e., having only one class of stock and being owned by U.S. citizens or resident aliens); or
- If they need help with bookkeeping and payroll services, which can be expensive.
A business should consistently earn a profit and pay distributions in order for the S Corp Tax designation to be advantageous.
Business Structure FAQ
What is the best business structure for my company?
There are many different legal structures a business can choose from, and the best one for your company will depend on its financial needs, risk tolerance, and ability to grow. You should give careful analysis to the legal structure of your business in the early stages of forming your business.
Always consult with a CPA for their advice about choosing an appropriate legal structure for your startup’s needs. Keep in mind that the business structure you choose will affect how easily investors will fund your company.
What are the benefits of a LLC?
LLCs are the simplest and most common type of formal business structure. They offer unique tax benefits, but an advantage to having a corporation is that it allows for personal liability protection.
For businesses with a large customer base, potential for immediate and sustainable profit, increased risk of liability or loss, or additional tax benefits, formal legal structures are recommended. Corporations offer personal liability protection and are more complex to set up than LLCs. They require outside investors. However, corporations have options to customize their tax structure which provides more opportunity for growth.
What are the benefits of a corporation?
A corporation is an independent legal entity created by shareholders. The owners have limited liability, meaning they cannot be sued for corporate debts or actions. You’ll need to work with an attorney or accountant to determine if this is the best way for you to structure your business.
LLCs are a type of business structure that offer the benefits of personal liability protection and tax benefits, typically offered by formal legal structures. You’ll need to file articles of incorporation with your state and get an employer identification number or EIN in order to start a corporation.”
An LLC offers protection from personal liability and can protect business assets in case of a loss. An LLC is the simplest way to set up your company, while a corporation requires more complex steps. You can learn how to form an LLC through our guide Form an LLC: Simple Step-by-Step Instructions
Formal business structures are recommended for businesses with larger customer bases, potentially sustainable profits, increased risk of liability or loss, etc. The only disadvantage of forming a formal legal structure is cost and maintenance; for a profitable business, this disadvantage is outweighed by financial and legal advantages.”
What are the benefits of a partnership?
There are several benefits of a partnership, including:
- The partners split profits and losses evenly.
- The general partner has more authority to act on behalf of all partners when it comes to debts and obligations.
- Sole proprietorship files taxes under the individuals name and is personally liable for any actions taken against the business. That means that if the business goes bankrupt, the owner’s personal assets can be seized to pay off creditors.
General partnerships file taxes under partners’ names and are liable for any actions taken against the business. This makes it easier for businesses to get credit, as each partner is responsible for their share of the debt.
What are the benefits of a sole proprietorship?
There are several benefits to operating as a sole proprietorship, such as:
- Operating under fewer regulations.
- Maintaining anonymity while running the business.
- Not limited to small businesses– large corporations can also have this type of structure, but they must register with the Division of Corporations (Corporation Tax).
- Having full control over the company.
Limited personal liability and no taxation benefits are some other advantages of a sole proprietorship.
What are the disadvantages of a sole proprietorship?
There are several disadvantages to using a sole proprietorship as your business structure. These include:
- Sole proprietorships are owned and operated by one individual, with no distinction between the business and the owner. This can be problematic if the owner wants to take on additional employees or partners.
- Sole proprietorships often have to register a fictitious name with the Division of Corporations. This can be costly and time-consuming, and it’s important to make sure that the name is not already in use by another business.
- Sole proprietorships sometimes work best when operating under the owner’s legal name. If you choose this option, you will need to consult an attorney or accountant to ensure that you’re following all applicable state regulations.
You should contact an attorney or accountant before you choose this type of business structure because there are several things you need to consider before making a decision. Sole proprietorships and partnerships are best for businesses with low risk. They are easy and inexpensive to start, but they don’t offer the legal protections of a corporation or LLC. In addition, informal business structures have zero tax benefits because they are taxed on their net profit. There is no personal liability protection, meaning your personal assets at risk in the event of a lawsuit or defaulting debt. Finally, a sole proprietor or partnership must invoice, receive payment, open a bank account, and market with their surname. This can be difficult for businesses that want to grow beyond their small sphere of influence.
What are the disadvantages of a partnership?
Partnerships are somewhat similar to sole proprietorships, but there are a few key differences. A partnership must file for a DBA (doing business as) if you plan on doing business under another name. The business must apply for certain licenses and permits, depending on their state. State-specific information may be needed for your business to operate properly.
The biggest disadvantage of partnerships is that they have limited growth potential. Sole proprietorships and partnerships do not offer liability protection, so the business itself is responsible for any damages that might occur. This means that if someone sues the company, both the owner and the company can be held liable. A sole or partnership must open a bank account, but they can only use their own names as marketing tools unless their state allows them to register and maintain a DBA name.”
What are the disadvantages of a corporation?
There are a few disadvantages to forming a corporation:
- A corporation is an independent entity, which means the owners (shareholders) are not personally liable for any legal action taken against the company. This is known as limited liability protection.
- To form a corporation, you’ll need to file articles of incorporation with your state and get a Federal Tax Identification number (EIN). It’s also important to note that corporations can only transact business in the states where they’re incorporated.
- A corporation must pay taxes on its net income, regardless of whether or not the profits are distributed to shareholders. This can be significant, especially if the business isn’t generating much profit.
- In order to raise money, a corporation must issue shares of stock which may dilute ownership and control within the company.
What are the disadvantages of a LLC?
Limited liability companies (LLCs) are a popular choice for small businesses because they offer the limited liability protection of corporations and the tax benefits of partnerships. However, there are some disadvantages to LLCs:
- They’re more difficult to get up and running than sole proprietorships or partnerships.
- The owner(s) of an LLC must file articles of organization with their state’s secretary of state, which can be a time-consuming process.
- In most states, LLC owners are required to publish notice of the company formation in a local newspaper, which can also be costly.
- LLC owners are taxed like partnerships, meaning they must pay self-employment taxes as well as income taxes. This can be quite expensive for small businesses.
- LLCs have limited growth potential and may not be suitable for businesses that plan to scale up quickly.
- LLC owners do not have personal liability protection in all states.
What factors should I consider when choosing a business structure?
There are many factors which must be considered when choosing a legal structure for your startup business, such as risk and ability to grow.
Some important points to consider include:
- A business’ financial needs – its structure should reflect the company’s need for limited liability, taxation, and ownership control.
- The ease of registering with the government – a business owner doesn’t want to spend unnecessary time and money changing their legal structure down the road.
- The ability to raise capital – some structures make it easier than others for businesses to secure outside investment.
- Ability of owners/members to take part in management decisions – this will vary depending on the legal structure chosen.
- Location restrictions – some states have limitations on what types of businesses can be registered in which structures.
- Tax implications – these can vary drastically from state to state, so it is important to research thoroughly before making a decision.
- State laws & regulations – always be sure you are aware of any specific laws or regulations that apply to your desired business structure in your area.
Talk to a Business Law attorney.
If you’re thinking of starting a business, it’s important to talk to an attorney who specializes in business law. There are a number of different business entities to choose from, and each one has its own benefits and drawbacks. The corporation and the LLC are the two most common business entities that offer limited liability. Creditors can sue a corporation, but they cannot gain access to any personal assets of the officer or shareholder. Partnerships share liability according to their partnership agreement. If you have questions about which entity is right for your business, talk to an attorney today. Lapin Law Firm offers business structuring services at an affordable cost and can help you get started on the right path. We are experienced at structuring successful business deals as well and can help you to be sure you have everything you need to get your business started off on the right foot.