Your business structure affects and determines how much you pay in taxes, your ability to raise money, paperwork you need to file and your personal liability (risk) that you have in your new company.
As a startup, solopreneur, you’ll need to choose a business structure before you register your new business with the state. Most businesses will need to get a tax ID number and file for the appropriate licenses and permits.
While you may be able to convert to a different business structure in the future, you may encounter obstacles such as restrictions based on your location, tax penalties and unintended dissolution of your company. Taking the time to determine what type of business structure you want, is an important part of your future success.
So, what types of business structures are there and what benefits do they have? I’ve got five tips to help you navigate the startup process.
#1 Sole Proprietorship
A sole proprietorship is easy to run and gives you complete control of your business. You own and run the business as one person. In this type of business structure, you may use a business name other than your own legal name. In many States, you’ll need to register and file a DBA (Doing Business As) form so that you can collect payments under the business name.
Things to keep in mind when starting a sole proprietorship.
There is no legal distinction between you and your business
You are legally accountable for all debts, loans, and liabilities and losses
You receive all monies and profits generated and are responsible for the taxes
It can be hard to raise money because you can’t sell stocks
Sole proprietorships can be a good choice for a low-risk business and for those who want to test their business idea before forming a more formal business.
Partnerships are the simplest structure for two or more people to own a business together. This structure works and operates much like a sole proprietorship, except that there are multiple owners.
This usually means that all owners are jointly and individually responsible for any neglect or misconduct performed by the company. This even includes if misconduct is conducted by the other partner without the knowledge of the rest of the owners.
Partnerships can be a good choice for businesses with multiple owners, professional groups (attorneys, doctors) and groups who want to test their business ideas before forming a more formal business.
#3 Limited Liability Company (LLC)
An LLC allows you to take advantage of the benefits of both the corporation and partnership business structure. LLCs protect you from personal liability in most instances. Your personal assets like your vehicle, house, and savings account won’t be at risk if your LLC faces bankruptcy or lawsuits.
For tax purposes, owners of an LLC are responsible for all taxes but are able to chose to be taxed like a corporation. Most of the time members of an LLC are considered self-employed and must pay self-employment tax contributions towards Medicare and Social Security.
LLC can be a good choice for a medium-or higher-risk business, owners with significant personal assets they want to be protected, and owners who want to pay a lower tax rate than they would with a corporation.
#4 Limited Liability Partnership (LLP)
In an LLP partners manage their own business directly under an umbrella structure. Consulting and professional services businesses with equally vested partners often operate as LLPs. Unlike a traditional partnership partners are not responsible for each other’s misconduct or negligence.
LLP can be a good choice if partners involved possess different skill sets that make up the company. For example, a Digital Marketer can team up with a Graphic Designer to create an LLP.
#5 S Corporation
In an S corp, the business’s income or losses are usually divided among and passed down to its shareholders. The shareholders report income or loss on their personal tax returns. S corps can’t have more than 100 shareholders and all shareholders must be U.S. citizens. This type of structure also puts a legal barrier between the business and the shareholder’s personal assets.
S Corps can be a good choice for a business that would otherwise be a C corp, but meet the criteria to file as an S corp.
Organizational structure is a great way to effectively manage business functions and employees. While the type of organizational structure usually depends on the size and operations of your new business, having a structure will provide universal benefits as you get your business off the ground.
Charles Watson, M.B.A., T.M.
Digital Content Strategist / Founder
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