Choosing your business structure is a key step when starting any for-profit business. You’ll need a business structure to open a business bank account, get a business credit card or apply for a small business loan.
Your business structure also affects your tax and legal liability, so it’s important to consider your choice carefully. Here’s an overview of the different types of business structures and the pros and cons of each one.
Sole Proprietorship: When you start a business by yourself and don’t select a business structure, you’re a sole proprietorship by default. As the name implies, sole proprietorships are owned and run by one person. You pay taxes on your business’s income as part of your personal income tax return.
Pros: This is the easiest form of business to start. Generally there is no paperwork to file and no special regulation applies.
Cons: You are responsible for all the company’s debts and liabilities, which puts your personal assets, such as your home, at risk. When you die, the business becomes part of your estate.
Partnership: If you start a business with one or several people and all the partners have personal liability for the debts of the partnership, that is considered a general partnership. If someone invests a chunk of money in your business but doesn’t want personal liability beyond that investment, you can form a limited partnership. The investor would be the limited partner. Both types of partnerships feature pass-through taxation which means that the partnership itself is not subject to tax, but each partner must include its share of partnership income, gain, loss, deductions, etc. on its own tax return.
Pros: No paperwork filing is required, and the partnership can continue if one of the partners retires or dies.
Cons: The general partners are personally liable for the company’s debts and liabilities. (However, the limited partner’s responsibility is limited to the amount of money they put in to the business.)
C Corporation: A C Corporation is a separate legal entity from its owners, which generally protects the owners from personal liability. Instead of pass-through taxation, the business pays its own taxes.
Pros: In some ways, a C Corp enjoys the greatest flexibility of any business structure. You can transfer shares of the C Corp to your heirs, there is no pass-through taxation to worry about, and there’s no limit on the number of owners. If you have big plans for your business, a C Corp is probably the way to go, since it can sell shares to investors (in fact, if you want to go public someday, you may have to form a C Corp).
Cons: You’ll pay for that flexibility with bureaucracy and fees. C Corps file state paperwork and pay fees at incorporation and every year thereafter. You’ll also need to choose a Board of Directors, hold annual meetings of shareholders, and file annual reports with the state.
S Corporation: An S Corporation is a form of corporation that meets specific Internal Revenue Code requirements. The requirements give a corporation with 100 shareholders, or less, the benefits of incorporation while being taxed on a pass-through basis.
Pros: An S Corporation offers the same protection from personal liability of a C Corp.
Cons: It requires state filing and fees, and has greater limitations than a C Corp. For example, there are limits on the number and type of owners an S Corp can have, the kind of business it can be engaged in, and the transferability of the business. Additionally, an S Corporation has pass-through taxation.
Limited Liability Company (LLC): A limited liability company (LLC) is a corporate structure whereby the members of the company cannot be held personally liable for the company's debts or liabilities. Limited liability companies are essentially hybrid entities that combine the asset protection characteristics of a corporation with the tax characteristics of a partnership or sole proprietorship.
An LLC offers some benefits of the corporate structure, such as protecting your personal assets. This form of business offers more flexibility in how you distribute profits compared to S and C Corps.
Clearly, there’s a lot to consider when choosing your form of business. You’ll need to think ahead and choose a corporate structure that can grow with your business. Because this is a big decision that can greatly affect your business, you should consult with an attorney as well as a tax advisor to choose the best business structure for your needs and goals.
Neither Bank of America nor any of its affiliates provide legal, tax or accounting advice. You should consult your legal and/or tax advisors before making any financial decisions.
Rieva Lesonsky is CEO and Co-founder of GrowBiz Media, a custom content and media company focusing on small business and entrepreneurship, and the blog SmallBizDaily.com. A nationally known speaker and authority on entrepreneurship, Rieva has been covering America’s entrepreneurs for more than 30 years. Before co-founding GrowBiz Media, Lesonsky was the long-time Editorial Director of Entrepreneur Magazine. Lesonsky has appeared on hundreds of radio shows and numerous local and national television programs, including the Today Show, Good Morning America, CNN, The Martha Stewart Show and Oprah.
Lesonsky regularly writes about small business for numerous websites and for corporations targeting entrepreneurs. Many organizations have recognized Lesonsky for her tireless devotion to helping entrepreneurs. She served on the Small Business Administration’s National Advisory Council for six years, was honored by the SBA as a Small Business Media Advocate and a Woman in Business Advocate, and received the prestigious Lou Campanelli award from SCORE. She is a long-time member of the Business Journalists Hall of Fame.
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