At the Law Office of Raphael Darrington, our attorneys will assist businesses with selecting the proper business structure and ensure businesses are within local, state and federal compliance. Starting a business is a daunting task and having a dependable attorney to focus on the administrative side is a huge asset. Many businesses simply conduct business and operate as a sole proprietorship by default. Some owners are aware of the exposed liability but many are unaware of the unfortunate pitfalls. When businesses operate without a legal structure, the owner becomes personally liable for mishaps and unfortunate accidents of the business. This type of liability is easily avoided with a consultation from a licensed attorney. Here are a few basic business structures that may be a fit for your business that our attorneys could assist you in forming:
A sole proprietorship is an unincorporated entity that is owned by one person. The owner pays personal taxes on revenues derived by the entity. A sole proprietorship is the simplest form of business organization. With very limited government regulation, they are the easiest to set up because they essentially only require an individual to engage in their trade. Sole proprietorships report income and/or losses and expenses with a Schedule C. The Net Income from form Schedule C transfers to your personal tax return. Additionally, you are personally responsible for withholding and paying all income taxes. Typically, there is no formal action necessary to form this business entity except you must be compliant with local licenses, registrations and insurances to conduct business. Unlike the other entities that will be discussed shortly, the major disadvantage of this entity is unlimited personal liability for debts and business obligations.
Limited Liability Company
A Limited Liability Company is a hybrid, private business entity that affords a business person the tax privileges of pass through income like a partnership or sole proprietorship, but affords its members protection from personal liability of business decisions. The business entity itself is not taxed and proportional profits and losses are passed to its members. An LLC can have one member, several members and even a corporation can become a member of an LLC. Every LLC must adopt a trade name that is unique to its state. Additionally, every LLC must file its Articles of Organization with the Secretary of State. This organization document establishes your existence with the state by providing your business address and contact information. Most states require an LLC to request an Employer Identification Number (EIN) if more than one member is registered to the entity. Like any business entity, an LLC must obtain licenses and permits to conduct business within its industry of choice. An operating agreement is an additional option that is recommended but not required by most states. An operating agreement outlines the roles of each member and provides rules and regulations that should be followed for the organization.
The IRS provides the following requirements for Tax Preparation of LLC’s/LLP’s:
- A single member LLC and file Form1040/Schedule C
- Partners in an LLC should file Form 1065
- Corporations in an LLC should file form 1120
S Corporation or S Corp
An S Corporation is a special type of corporation that is treated like a separate entity than its shareholders but it’s still afforded the pass through tax incentives like a sole proprietorship and LLC. The business is not taxed and the owner is eligible to avoid double taxation unlike your traditional C Corporation. However, shareholders must pay themselves a reasonable rate or run the risk of being penalized or reorganized by the IRS. To register as an S Corporation you must first establish the business as a traditional corporation. Afterwards, shareholders are given form 2553 where this establishes the company as an S Corp. It’s important to note that not all states treat S Corporations like its intended status. Some states only afford S Corps to enjoy the Tax Privileges on profits to a specified amount and then tax profits for any amounts in excess. New Jersey and New York tax both the S Corps profits and shareholders proportional share of those profits. S Corps enjoy a major tax saving by taxing only the wages of an employee who is a shareholder as an employment tax and allowing the remaining income to be received as a distribution which is typically taxed at a lower rate.
C Corporation or C Corp
A C Corporation is the traditional corporate structure of a business entity owned by shareholders. The Corporation itself is primarily responsible for the liabilities of the entity. Corporations are the most complex of any business structure and tend to only be equipped for very large businesses. Corporations are afforded opportunities like selling its shares on the open market or going public. This is done by setting up an Initial Public Offering or IPO to raise capital for business expansion. Corporations pay federal, state and local taxes. Corporations typically pay taxes twice. Corporations must pay taxes on their profits as well as shareholders who are employed must pay income taxes. Corporations are the most costly to start and administratively are very costly to maintain. Creating them requires start-up capital, an operation budget and tax compliance costs that most businesses do not have.