With the passing of significant tax reform, the process of choosing the right type of legal business entity for your company is one of the most important business decisions you will make. Choosing the wrong business entity can have massive repercussions, including everything from legal consequences to significantly higher taxes than would otherwise be necessary.
It's important to get the right business entity from the outset, in order to prevent hassle and to allow you to focus on actually growing your business.
Things to consider with each type of business entity
Each business entity choice has pros and cons, which can have a significant impact on the strength of your business. These are a few highlights from the most common business structures:
Sole Proprietor
This is the most basic business entity. It is the easiest and least expensive to set up, and can only be used for businesses that have a single owner. One of the biggest risks of a sole proprietorship is that the business owner is personally liable for the liabilities (including lawsuits) that are directed at the company.
General Partnership
A general partnership is similar to a sole proprietorship, with the partnership profit or loss and other tax issues passed through to the partners and taxed on their individual returns, except that there are two or more partners, with equal or different holdings in the company. General partnerships are easy to set up, but can lead to problems down the line. For example, if the partners don't agree with a business policy, or how to spend their money. Partners are also personally responsible for all of the liabilities incurred by any of the partners.
Limited Liability Company
Limited liability companies are an effective structure for significantly reducing the owner's personal liability. They are also typically less expensive and complicated to set up than S or C corporations. However, they do have some limitations which can be difficult to manage, and there is a significant registration and annual cost associated with this type of business entity. A limit liability company is a state only entity and can be either a sole proprietorship or partnership for federal purposes.
S Corporation
S corporations are known as "pass-through entities" and are typically used as a holding company to prevent personal liability and separate the owners of the corporation from the corporation itself. As a pass-through entity, the profit or loss and other tax issues of S corporation are passed through and reported on the stockholder's returns. S corporations are much more difficult to set up and properly maintain than LLCs or sole proprietorships and partnerships and require an accounting team to maintain properly. Tax law changes and the qualified business income deduction have added new complexity to maximize your tax savings. Professional tax planning is crucial to see if you qualify.
C Corporation
C corporations are the most complicated form of business entities and can have the greatest potential regulatory and tax implications. While C corporations are often the best business entity to choose, it is absolutely imperative that you speak with an accounting professional before establishing a C corporation.
How to determine which business entity is right for you
While you might be tempted to determine the right business entity on your own, we strongly encourage you to seek out the knowledge of an expert. Doing so can significantly reduce the problems you face down the line.
For more information about choosing the right business entity, or for general accounting assistance, it is important to speak with a professional advisor who can walk you through all of the options. This is one decision you do not want to be making alone.
About Sonu Shukla, CPA, CFP
Sonu Shukla is a Certified Public Accountant as well as Certified Financial Planner. He believes in proactive tax planning and has the skills, education and experience to demonstrate passionately planned financial strategies. His firm tailors highly efficient tax plans for his small business clients, all in a one on one environment where he and the client can bounce ideas around until every detail is worked out. Located in Orlando, FL, he services all of Florida.
