There are many ways that a business can be structured. The structure you choose will impact:
- The amount of taxes that you are required to pay
- The amount of personal liability you will have
- The amount of paperwork necessary to designate your business
Usually, you can structure your business as a sole proprietorship, partnership, corporation, and S corporation. Further, you can structure your business as a limited liability company (LLC) and as a limited liability partnership (LLP).
What Is a Sole Proprietorship?
The most straightforward business structure is the sole proprietorship, which consists of just one individual who owns and operates the business. You are personally liable for your business debts, and when filing your taxes, you can document your income on Schedule C.
You are also directed to pay a self-employment tax for Social Security and Medicare.
Self-employment tax denotes 15.3% of your business income following deductions. The self-employment tax is devoted 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 taxable amount.
It is cost-effective to begin your business as a sole proprietorship because it has more infrequent legal and accounting expenses than a partnership or corporation.
What Is a Partnership?
A partnership is a business entity in which two or more individuals operate a trade or business. Each partner contributes money, property, work, or skill and shares the profits and losses of the partnership.
One of the benefits of a partnership is that it is not required to pay tax on its income. Instead, any profits or losses are passed through to each partner. The partnership uses Form 1065 of the tax return to report income and loss when filing its taxes. Also, the partners use Schedule K-1 of Form 1065 to apprise their share of income and loss.
There are two types of partnerships: general and limited. A general partnership consists of partners who run the business and are liable for the partnership debts and other responsibilities. 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 to the general partners.
What Is a Corporation?
A corporation is a business entity that is more complicated than the other business structures. It is distinct from its owners and requires compliance with laws and taxes. If you decide to incorporate, you are protected against any liability your company incurs.
However, as the corporation owner, you will have to pay a double tax on your company’s earnings.
Why Should a Business Incorporate?
There are several benefits to incorporation, including:
- The business becomes its own, valid, legal entity and can function as such (signing records, filing documents, etc.).
- Shareholders are typically protected from liability; the corporation is held responsible for violations or losses.
- Some corporate structures, such as nonprofit corporations, are given different tax benefits
- Public customers frequently associate incorporated businesses with reliability and dependability.
On the other hand, the corporation approach can have setbacks and drawbacks. One of these is that the process can often be difficult and long. Some smaller businesses may wish to select a more straightforward business structure like a partnership or a sole proprietorship.
How Do Businesses Incorporate?
New corporations are created by incorporating. The corporation could be a company, a nonprofit organization, a sports club, or a new city government. Even though corporations are not individuals, they are identified by law as having the same privileges and obligations as natural persons.
The articles of incorporation are filed with the proper state office. Articles of incorporation list the goal of the corporation, its principal place of business, and the number and types of stock shares it will have. Generally, a registration payment between $25 and $1,000 is due to the state.
Corporations have distinct names, and they are typically made up of three parts:
- A distinctive element
- A descriptive element
- A legal ending
In most jurisdictions, all corporations must have a distinctive element and a legal ending to their names. Some corporations prefer not to have descriptive elements. For instance, in the title “Tiger Electronics, Inc.,” the word “Tiger” is the distinctive element. The term “Electronics” is the descriptive element, and the “inc.” is the legal ending.
The legal ending suggests that the corporation is legal and not just a business registration or a partnership. Incorporated, limited, and corporation are generally abbreviated as Inc., Ltd., and Corp., and they are the likely legal endings in the United States.
What Are the Legal Benefits of Incorporating?
There are several legal advantages to incorporating. They include:
- Protection of personal assets: Maybe the most crucial legal advantage of incorporating is safeguarding personal assets against claims of creditors and lawsuits. Sole proprietors and general partners in a partnership are personally and jointly liable for all business liabilities, such as loans, accounts payable, and legal judgments. With corporations, however, stockholders, directors, and officers are typically not responsible for the company’s debts or responsibilities. They are limited in liability to the amount they have invested in the corporation.
- For instance, if a shareholder bought $100 worth of stock in a corporation, they cannot be responsible for more than $100. Corporations and limited liability companies (LLCs) may maintain assets like real estate, cars, or boats. If a shareholder is personally involved in a lawsuit or bankruptcy, their assets may be shielded. Creditors of shareholders in a corporation or LLC cannot take the company’s assets. However, creditors can seize ownership of shares in the corporation, even though they are considered personal assets.
- Transferable ownership: Ownership of a corporation or LLC is smoothly transferable to another individual, whether in whole or in part. Some state laws are very corporate-friendly. For instance, transferring ownership in a corporation in Delaware is not required to be filed or recorded.
- Retirement funds: Retirement funds and qualified retirement plans, such as 401(k)s, may be appointed more easily via corporations.
- Taxation: In the United States, corporations are taxed at a lower rate than people are. Corporations can own shares in other corporations and obtain corporate dividends 80% tax-free. There are no limitations on the number of losses a corporation can have and carry forward to subsequent tax years.
- On the other hand, sole proprietorships cannot claim a capital loss greater than $3,000 unless the owner has offset capital gains.
- Raising funds through stock sales: Corporations can quickly raise capital from investors by selling their stock.
- Durability: Corporations are capable of existing indefinitely. The existence of a corporation is not affected by the death of shareholders, directors, or directors of the corporation.
Credit rating: Regardless of an owner, shareholder
Seeking Legal Help
If you are creating a business and would like guidance on which business structure to use, you should consult a business attorney. You want to make sure that you’re selecting the right type of business for your company’s goals. It’s in your best interests to hire a qualified corporate attorney if you need help with filing or incorporation matters. Your attorney can help you review all the different available options. Also, in a dispute or a legal conflict, your lawyer can help you file a lawsuit if needed.
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