What legal structure is right for your business?
One of the first things you will do when starting a business is decide how you want to organize. This means how will the company be set up legally. How many people are to be involved in the ownership? Will ownership shares be equal? There are lots of questions and many ways to organize. For example there are:
- Sole proprietorships
- Partnerships
- C corporations
- S corporations
- Limited liability companies
- Single member limited liability companies.
Let’s examine these examples and look at the features of each.
Sole Proprietorship
This probably the easiest way to set up a business. You have complete control over every aspect of the operation. There is minimum government red tape. The sole proprietorship does not file a separate tax return. Tax reporting is done on the owner’s personal tax return on Schedule C. The one big problem is liability. This form of operation leaves the owners personal assets at risk in the event of legal problems. That means everything you own personally.
Partnerships
Like the sole proprietorship, the partnership is relatively uncomplicated. There will be two or more owners. You should have a written partnership agreement that spells out the partners, their ownership share, duties and a formula for conflict resolution. The partnership must file a tax return each year. The partnership does not pay taxes but instead passes through any profit or loss to the partners in proportion to their ownership percentage. This form of ownership also leaves the partners’ personal assets at risk in the event of legal problems.
Corporations
The corporation is an entity that is authorized to issue stock to the owners. There is no risk to the stockholders’ personal assets. Corporations must file tax returns. In a “C” corporation, taxes are paid by the corporation directly to the government. In an “S” corporation profits or losses are distributed to the stockholders in proportion to their ownership share and the corporation pays no taxes. “S” corporations are a big favorite with small business owners.
Limited Liability Companies (LLC)
The LLC offers the same personal liability as the corporation but is not quite as complex. The LLC issues unit certificates to the members. The LLC must file tax returns but pay no taxes. Profits or losses are distributed to the members in proportion to their ownership share. There is one exception – the single member LLC. Profits, losses, expenses, etc. are reported by the single member on their personal taxes on Schedule C.
A couple of things to consider. Keep complete and accurate records for your business, consider using an attorney to set up your business entity and with the complexity of the tax code, use a tax accounting professional to prepare your taxes.
A very valuable source for counseling is SCORE, “Counselors to America’s Small Business.” SCORE provides free and confidential business counseling including information and assistance on choosing the right legal structure for your business. Call the SCORE office in Kalispell at 406-756-5271 to set up an appointment. The phone line will ask you to leave a name and number. A SCORE volunteer will call you back as soon as possible to book an appointment.
John Vander Laan of Kalispell is a SCORE volunteer.