Selecting a Business Entity – Think it Through

You’ve decided to form a small business and are worried about liability among other things. The obvious answer is to form a business such as a corporation or limited liability company…or is it?

There is a certain innate momentum that happens with commonly understood concepts. When it comes to starting a business, everything you watch/listen to/read will tell you to form a business entity for tax and liability purposes. Depending on the source, a great amount of bleating will then be undertaken discussing whether the corporation or LLC is the best entity to go with for your business.

You will note I use the word “bleating” in the paragraph above because that is exactly what is occurring. The concept of using a business entity is so engrained in the business mentality that many people form one without really thinking the process through. This can result in catastrophe when things go wrong or the incorrect positioning of an entity when things go right. Let’s consider a simple example.

Why do you incorporate your business? The common answer is to protect you from personal liability should a lawsuit or debt arise from the activities of the business. Nobody can argue with that, right? Not really, but the problem is that argument entirely misses the point in many ways. How so? Well, what if your biggest assets are in the corporation that is getting sued?

Assume I come up with the concept of Google. [I wish.] I form a corporate entity. I am now protected from personal liability for the debts of the business. Lucky me, but what about the really valuable assets? Google has many valuable assets ranging from the name to the servers to the patented advertising systems and so on. Well, guess what? If Google gets sued, all those assets are exposed to the lawsuit. Sure, I get to keep my house, but how will that measure up to the fact I just lost control of the Google search engine? My home will be a nice place for the wake after I throw myself off a bridge somewhere!

Should you form a business entity for your business? Yes. The question is what do you really want it to do. If the business will have a lot of valuable assets, say manufacturing equipment, then just incorporating isn’t really doing much for you because it leaves all that manufacturing equipment exposed. Might not it be better two form one business entity to own all the valuable assets and another entity to lease those assets and carry out the main business idea? Of course.

When it comes to creating an entity strategy for your business, don’t stop at the idea of protecting yourself from the liabilities of the business. Many times, the business assets are far more valuable than anything you own. Take the time to think it through. Try to separate the risk from the value. Once you do, then you will know the entities you need and how to proceed.

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