Choosing a legal structure for your business can be a daunting first step in setting up shop. You may be inclined to simply pick an entity type that you're familiar with, such as a corporation. But making a poor decision can hurt your business prospects before you've even made your first sale. Understanding the differences among business structures can help you make the most money, with the least hassle, while keeping your tax bill as small as possible.
State Law Determines Business Structures
Each state has a business code that determines the types of businesses that can be formed within the state. All states allow businesses to operate as sole proprietorships, general partnerships, limited liability companies, and corporations. Some states also allow the formation of hybrid entities, such as limited partnerships and limited liability partnerships. Other states allow the formation of special types of existing entities, such as closed corporations and professional limited liability companies.
Some Business Structures Are More Complicated
One of the factors that can influence your choice of business structure is complexity. Sole proprietorships and general partnerships are easy to set up and manage. These types of business structures function under their owners' identities, so the state does not typically require a separate business registration. The owners are also allowed to manage their business affairs without a lot of regulation.
If you own your home or have other personal assets, you may want to protect those assets from creditors who might take them to pay off business debts. Businesses can fail. If your business operates under your own name, failure of your business can exhaust your life savings. Setting up your business as an independent entity creates a barrier between your personal and business assets. Corporations and limited liability companies offer this type of protection. You must file paperwork with the state business registration office to form an independent entity.
Many people select a business structure based on the tax consequences. Businesses that are operated under your own name allow you to include business income on your personal tax return so it will be taxed at the individual tax rate. An independent entity, like a corporation, pays its own taxes at the business tax rate. Certain business structures, like the LLC, offer a combination of benefits: an independent entity and the option to be taxed at the individual tax rate.
A Business Lawyer Can Help
The law surrounding choosing a legal structure for your business is complicated. Plus, the facts of each case are unique. This article provides a brief, general introduction to the topic. For more detailed, specific information, please contact a business lawyer.