STARTING A BUSINESS IS AN IMPORTANT DECISION

Whether people decide to start a business alone, with a partner, family members and/or investors, it is important to have a good understanding of how business structures are formed and structured. An attorney will be able to assist you in the direction that best suits your needs and future plans.

THINGS TO THINK ABOUT BEFORE CHOOSING THE FORMATION OF YOUR BUSINESS


COST
A sole proprietorship, general partnership, limited liability company, and corporation vary in filing fees, tax liabilities, and other set up costs.

LIABILITY
Among the different entities, the risks and protections can range from minimal to extensive. Putting the liability on you personally will maximize the risk and may devastate you financially in a business situation as well as a personal one.

CONTROL
Your business entity can dictate the manner in which the business is operated. Choosing the wrong entity may make you personally liable for the wrongs of employees and partners.

GROWTH
Some business entities are limited in the number of shareholders that are allowed. This can limit your room for expansion.

CONFORMITY
As a business entity, you may be required to obtain a business license, permit or register with the appropriate state in order to be in compliance. The way you form, structure and operate your business in one state may not be accepted in other states. The problem with this is, that you may not have the same protection or laws from state to state. If you do not comply with individual state laws, you will lose business rights.

TAXES
Beware of the tax differences with all entities. There are advantages and disadvantages in different formations of businesses. Investigate how to avoid double taxation and other unwanted consequences.

CAPITAL
Review the requirements of all entities' procedures for keeping records, distribution, fiscal responsibilities, and process of raising funds.

CONTRACTS
Businesses are faced with a variety of contracts. Before entering into a financial commitment for leasing office space, warehouse space, services, supplies, be sure it will fit your business needs currently and the foreseeable future. Entering into partnership and buy-sell agreements can be very complicated. In order to protect your rights and try to avoid any court hearings, an attorney can guide you so your cost are minimized.

SOLE PROPRIETORSHIP
A sole proprietorship has a single owner. The business and the owner are one and the same. The owner of the business is responsible to report the business income and losses on their personal tax return and is personally liable for all business-related obligations, including but not limited to IRS, EDD, Labor Board, lawsuits and judgments. This may be a good business for you if your personal liability is small and your overhead is minimal.

ADVANTAGE
The sole proprietor has complete control in operating the business,

DISADVANTAGE
The sole proprietor can often be away from the business and an employee or other designated person will be making the decisions for you that will ultimately be your responsibility. If there is no such other person making decisions, you may lose opportunities.

LIMITED PARTNERSHIPS
One person or company generally forms the Limited Partnership. This person or company is the "General Partner". The General Partner will solicit investments from "others". The "others" will be the limited partners. Limited Partnerships are known to be expensive and very complicated in most aspects. This is not recommended usually for small business owners.

The general partner is in control of the daily operations and can be held liable for business debts if the general partner is not a corporation or Limited Liability Company. The limited partners may not participate in the management of the business. If they do, they may be found personally liable. They have very little control over the daily operations but they are not personally liable for business debts or claims.

ADVANTAGES
A general partner may vote on matters related to the business of the Limited Partnership provided such matters are subject to the approval of the limited partners. This must be written in the limited partnership agreement.

DISADVANTAGES
It may be difficult to raise money because individuals may be reluctant to invest in a company limiting their rights.

CORPORATION
A corporation is an independent legal and tax entity, separate from the people who own, control and manage it. Owners do not use their personal tax returns to pay tax on corporate profits. The corporation itself is responsible for its taxes only. Owners pay personal income tax on salaries, bonuses, and money drawn from the corporation. Directors and officers manage the affairs of the corporation. Corporations are good for businesses that might run the risk of being sued by customers, clients or running up debt, or need to protect personal assets.

ADVANTAGES
A corporation limits the liability for the business debts. The separation of the business liabilities from your personal liabilities can protect your personal assets; therefore keeping your personal finances intact while your business liabilities may escalate.

DISADVANTAGES
Shareholders do not have a role in management.

LIMITED LIABILITY COMPANY
The members of a limited liability company either manage the business affairs of the company themselves or appoint a manager to operate the company. The LLC is structured to limit the owner’s personal liability for business debts and judgments against the business. An LLC is an ideal substitute for an S corporation whenever foreign citizens or entities, corporations, partnerships, other LLC or trusts are members, or when money is loaned to the LLC.

The LLC provides estate planning opportunities since trusts, including revocable living trusts and estates are eligible shareholders. Also, the LLC could eventually eliminate both general and limited partnerships as business entities since it offers the same tax treatment and management opportunities, yet with the added advantage of limited liability to all its members.

The owners of an LLC pay taxes on their share of the business income on their personal tax return.

ADVANTAGES
An LLC is particularly well suited for real estate ventures containing corporations, trusts or foreign investors or new business ventures involving existing corporations. The LLC also provides estate planning opportunities since trusts and estates, including revocable trusts, may own a membership interest. The LLC will be treated as a partnership for tax purposes; it will be a flow-through one entity in which income and losses are reported directly by its members.

DISADVANTAGES
The LLC laws in the various states differ so the legal value of those state court decisions is questionable. Congress has not passed any tax legislation establishing the LLC as a partnership for tax purposes. If Congress decided to tax LLCs as corporations, their use would greatly be diminished. This is extremely doubtful, however, since all 50 states have LLC legislation. Thus far, the IRS has ruled that the LLC will qualify as a partnership for tax purposes, but there is nothing in the Internal Revenue Code that permits such treatment. LLCs cannot be used by professionals or in situations when a regular “C” corporation would take advantage of the corporate reorganization tax provisions or the ability to have separate classes of stock.

SUBCHAPTER S CORPORATIONS
Allows small businesses to insulate shareholders from many corporate debts and liabilities. The greatest benefit in operating as an S corporation is that profits pass directly to shareholders without any business income taxes. However, S Corporations are limited in the number and types of shareholders.

SUBCHAPTER C CORPORATIONS
Corporations are automatically Subchapter C Corporations unless you choose to be elected as a Subchapter S Corporation in a timely manner. The only difference between a Subchapter S and Subchapter C is for tax purposes. Subchapter C Corporations include most large, publicly held businesses. Shareholders are protected from most corporate debts and liabilities. A great disadvantage is that the profits are distributed to shareholders as dividends and therefore are subject to double taxation. C Corporations must pay business income taxes, and shareholders must pay personal income taxes on dividends.