There are a number of ways that a business can be structured. The structure you select will affect:
- The amount of taxes that you are required to pay
- The amount of personal liability you will have
- The amount of paperwork required to establish your business
Usually, you can structure your business as a sole proprietorship, partnership, corporation, and S corporation. Additionally, you can structure your business as a limited liability company (LLC) and as a limited liability partnership (LLP).
1. What Is a Sole Proprietorship?
The simplest business structure is the sole proprietorship, which consists of just one person who owns and manages the business. You are personally liable for your business debts, and when filing your taxes, you can report your income on Schedule C.
You are also required to pay a self-employment tax for Social Security and Medicare. Self-employment tax represents 15.3% of your business income following deductions. The self-employment tax is applied to your initial $102,000 of adjusted gross income (AGI), and your deduction is half of the self-employment tax you owe from the entire amount that is taxable.
Forming your business as a sole proprietorship is cost-effective because it has fewer legal and accounting expenses than a partnership or corporation.
2. What Is a Partnership?
A partnership is a business entity in which 2 or more persons operate a trade or business. Each partner makes a contribution of money, property, work, or skill, and shares the profits and losses of the partnership.
One of the advantages of a partnership is that it is not required to pay tax on its income, but rather, any profits or losses are passed through to each partner. When filing its taxes, the partnership uses Form 1065 of the tax return to report income and loss. Also, the partners use Schedule K-1 of Form 1065 to report their share of income and loss.
There are two types of partnerships: general and limited. A general partnership consists of partners who operate the business and are responsible for the partnership debts as well as other obligations. In a limited partnership, there are both general and limited partnerships. The limited partners act as investors only, and are not subject to the same liability as the general partners.
3. What Is a Corporation?
A corporation is a business entity that is more complex than the other business structures. It is separate from its owners, and requires compliance with laws and taxes. If you make the decision to incorporate, then you are protected against any liability your company incurs. However, as the owner of a corporation, you will have to pay a double tax on your company’s earnings.
Seeking Legal Help
If you are starting a business and would like advice on which business structure to use, you should consult a business attorney.