Choosing A Business Entity: Which Is Best For Your Business?
When considering launching your business, there are several essential steps before a person is legally allowed to sell and make profits from their business. These laws vary from state to state. Many business structures are available for new business owners, from operating as a sole proprietorship to forming a corporation. Each business structure has legal and tax ramifications (consult with one of our attorneys for a better understanding of those ramifications.). Most importantly, your business goals will determine the best business structure for your company, from small to large.
Why are business structures even important? Well, a business legal structure or a business entity is a government classification that is meant to regulate certain aspects of a business. There are different purposes for a business structure; one, on the federal level, your business legal structure determines the type of tax burden you may be liable for. On a state level, your business might face different liability ramifications.
SOLE PROPRIETORSHIP
A sole proprietorship is a business entity where a single owner has the autonomy to run their business as they imagine it to be without additional members or a board of directors. This business structure is easy to form and gives a business owner complete control and management of their business. Sole proprietorships are an excellent choice for those who wish to run a low-risk business and self-manage their company before forming a formal entity. Once you form a sole proprietorship, you as the owner are entitled to all the profits from the business. Additionally, you are responsible for all the debts, losses, and liabilities that your company experiences.
PARTNERSHIP
On the other hand, a partnership is two or more people running a business together. Unlike a sole proprietorship that does not have investors contributing to funding the company, a partnership has those advantages. There are two common types of partnerships to be caveat about limited partnership (LP) and Limited Liability Partnership (LLP).
Limited Partnership
In a limited partnership, there is only one general partner who manages the day-to-day operation of the business. Likewise, each general partner is liable for all the partnership debts, obligations, and activities. In addition, limited partners have what is often called “passive investors” who typically contribute money to the business and share the business’s income. However, they don’t participate in the day-to-day management of the company. Idaho Code § 30-24, et seq.
Limited Liability Partnership
Like a limited partnership, a limited liability partnership gives everyone (all the owners or investors) limited liability. An LLP is a good business decision for those who have a business with multiple owners. Examples could be a professional group like a law firm or a family looking to start a company together that isn’t ready to form a formal business. It’s essential to have an attorney present when creating the partnership agreement as they establish the terms of the partnership and what each partner is entitled to. Idaho Code § 30-23-9, et seq
CORPORATIONS
A corporation, also known as a C-corp, is a legal entity separate and independent from its owners. Because of this, forming a corporation is more complex and expensive than most other business structures available. However, this form of business structure provides the most protection to its owners from personal liability. Still, it requires an even more extensive record-keeping, operational process, and reporting of the day-to-day management of the business. Additionally, a corporation can enter into contracts independent from the shareholders; it can sue, be sued, own and sell property and sell the rights of ownership in the form of stocks. However, a corporation also has the responsibility of tax payments.
Unlike a sole proprietorship, partnerships, and LLCs (which we will discuss later), corporations pay income taxes on their profits. As a result, they have, in some instances, been taxed twice- once when the company makes a profit and later when the shareholders’ dividends are paid to their personal tax returns.
S-Corp
S-Corps are corporations with the same liability protection and tax benefits as a C-corp. Because of this, they are more appealing to small business owners. Unlike C-corps, S-corps can avoid double taxation; the corporation can choose to pass all the losses, income, deductions, and credit through its shareholders for tax purposes. In this instance, shareholders would have to report the corporation’s income and losses on their personal tax returns and pay federal income tax at their individual rates. Lastly, an S-corp cannot have more than 100 shareholders.
B-Corp
In a benefit corporation, there are two driving forces that a business owner needs to be cognizant of: making a profit and service to the public. A B-corps’ sole purpose is to make profits for its shareholders and be of service to the public. Additionally, directors of benefit corporations report to their shareholders (and the public in some states) on how they are of service to the public.
Non-Profit Corporation
As the name suggests, a non-profit corporation is a corporation organized to do charity, education, religious, literary, or scientific work that is beneficial to the public. A non-profit corporation focuses on something other than making a profit. Most importantly, tax exemptions are an advantage for non-profit corporations. They can be exempt from paying state or federal taxes on their earnings. However, they must register with the IRS to qualify for a tax exemption. This process is different from registering with local states (consult with one of our attorneys for the necessary process and protection).
Corporations are suitable for those with a medium or higher-risk business, especially those who want to have an easier time raising large amounts of capital from multiple investors. Corporations are also the best choice if you are willing to take your business “public” or eventually choose to sell. Idaho Code § 30-29, et seq.
LIMITED LIABILITY COMPANY (LLC)
Finally, a limited liability company (LLC) exists as a separate entity from its owners to ensure they cannot personally be held liable for the company’s debts and liabilities. An LLC is a hybrid business that lets the members (owners) take advantage of benefits derived from a partnership and corporations. For tax purposes, an LLC is considered a “pass-through entity.” This means that the business income is not taxed at the entity level but passes through the business to LLC members, who must then report the income or loss on their personal tax returns and pay any necessary taxes or debts. Idaho Code 63-3006A.
Unlike sole proprietorship and limited partnerships, which can personally be liable and pursued for ramifications for deals made by the corporation, an LLC shields its members (owners) from personally being liable for the independent acts of the LLC or its other members. Personal assets (“i.e., vehicle, savings account, etc.) will not be at risk if your LLC faces bankruptcy or lawsuits. Furthermore, an LLC has no restrictions on how many members it’s allowed to have.
Lastly, different states have different rules regarding joining or leaving an LLC; some require an LLC to be dissolved and reformed with new memberships (unless prevented by a contract within the LLC). Please check the requirements with your state (specifically the Secretary of State page). An LLC is a good choice for those who want medium- or higher-risk businesses, as owners with a significant asset they wish to have protected and those wanting to pay a lower tax rate than they would have under a corporation. Idaho Code § 30-25, et seq.
No matter what type of business structure you’re looking for, a business lawyer would help navigate, advise, and assist from the initial filing through the structuring process of your business. Our business lawyers would be there to support and counsel you on all procedures so that you can have an easy mind, reduce financial risks, and successfully bring your business ideas to fruition. To discuss ways to structure your business, contact us, and an attorney will be there to guide you.
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