Jul
15
2019

Choosing the Right Business Entity

Probably one of the most confusing yet important decisions you will need to make when starting up your business, is choosing the right business entity. There are various types of business entities to choose from. Each one has different legal and tax implications for owners and managers.

You’ll need to analyze the consequences of utilizing different types of business entities along with the purpose and goals of the business entity. Choosing the right entity will depend on three primary factors: liability, taxation and record-keeping.

Types of Business Entities

Sole proprietors, partnerships, “C” corporations, “S” corporations and limited liability companies or LLC’s are the most common forms.

The Limits

We will be focusing on LLC’s(Limited Liability Corporations) here since LLC’s have become the most popular form of business entities for new companies. Many existing entities have changed over to this form as well. Partially due to the edge they have on general and limited partnerships from a business standpoint.

Pros

LLC’s are extremely flexible, more suitable for a very wide range of businesses. Ideal for small businesses with a limited number of partners. It’s somewhat of a hybrid between a corporation, which has shareholders, and partnerships, in which the partners own the company but don’t have shares.

Offers many of the same advantages of a corporation, sole proprietors, and partnerships. The biggest advantage is that unlike sole proprietors or partnerships, the members, who are the owners, are legally separate from the entity. Unless someone makes a specific personal guarantee, the amount at risk for members is limited to their investment.

Without risking their limited liability status, members can be active in the management of the corporation and utilize the same management structure of a partnership.

With two or more members, the LLC has the flexibility in allocating profits and losses. Passing the profits directly to the partners without the double taxation of a “C” or “S” corporations. With the additional option to be taxed as a C corp if it is beneficial. Plus, they are not limited by the same restrictions which S corporations are.

When it comes to taxes, sole proprietors, partnerships and LLCs come out about even (they’re all pass-through entities). Unlike the double taxation of a “C” corporation.

Cons

Unlike a C corporation, no losses can be carried forward into future tax years and an LLC cannot keep retained earnings, meaning that it must distribute the profits or losses to its members every tax year. One potentially major drawback is that the legal treatment of a Limited Liability Corporation varies by state. So, for business that plan to operate in multiple states, this entity might not be viable.

Your Future

Choosing the businesses entity for your business is an important decision you will need to make that will effect your business’ future. When you have the facts, this decision will not be as difficult as you might think when you addresses the pros and cons of the different types of business entities that exist.

Comments Off
Jul
07
2019

Choosing the Right Business Entity: LLC Vs S CORP Vs C CORP

Choosing the right business entity is a very important decision all prospective business owners have to make.

The right business entity should provide the following:

Personal liability for the owners
Minimize business taxes
Means of financing

To simplify this process, we will determine the right business entity from a tax perspective. In other words, the ideal business entity will be the one that produces the lowest business tax.

The three business entities we will choose from are: Limited Liability Company (LLC),S-corporation, and C-corporation.

LLC vs S CORP vs C CORP

The first process of elimination is based on the profitability of the business. If the business is not profitable, then an S corporation or C corporation are NOT suitable options. An LLC will be the right business entity to pick.

In this article, a business is considered profitable if the owner can take out a market salary from the net profits.

An example to illustrate the profitability test is shown below:

John is a CPA who owns a tax consulting business called Tax Guru. If the market salary for a CPA with John’s experience is $60,000 and Tax Guru generates profits of only $40,000, then Tax Guru Fails the profitability test and should be set up as an LLC. Now if Tax Guru had profits equal to or greater than $60,000 it is considered a profitable business, and should be set up as an S Corp or a C corp in order to minimize self employment taxes.

S Corp vs C Corp

We’ve already established from the previous section in this article, that a business must be profitable in order to be set up as an S corp or a C corp.

An S Corporation is suitable if the following apply: business owner is not in the highest tax bracket, the business owner has a significant amount of qualified dividends and capital gains, the business expects a loss in the future, and the business does not have a need for public financing.

A C Corporation is suitable if the business owner is in the highest tax bracket, or the business has a great need for public financing.

Disclaimer

The foregoing is intended for educational purposes only and does not constitute legal or professional advice. Nothing contained herein is intended to be used, or can be used, by any person to avoid penalties that may be assessed under federal or any state law.

Comments Off