Starting your own business can be both exciting and daunting.
The decisions an entrepreneur makes at the very beginning of the process can have the greatest effect on the overall growth and direction of the company. One of the first questions you may ask is:
“What type of entity should I make my business?”
Frequently, this question is based upon a desire to limit your personal liability. Today the most common answer to that question is to form an LLC (limited liability company). While an LLC has many positive attributes, the final decision regarding the entity choice should consider certain pros, cons, and alternatives—such as the S or C corporation, which are not as popular or commonly known as the LLC, but also achieve the benefit of limiting personal liability. There are several advantages and disadvantages involved with the entity options, some examples of which are discussed below:
1. An LLC requires fewer formalities.
A corporation requires the director(s) to follow many statutory requirements, such as holding annual meetings, maintaining minutes, and several other formalities that must be followed and documented. The failure to do so may jeopardize the benefit of personal liability, and expose you, individually, to liability (by doing what is referred to as “piercing the corporate veil”). An LLC, on the other hand, requires much fewer formalities and nuances to maintain its entity status in imposing liability. Not to mention, the less formalities, procedures and documents required, a business owner can focus time and resources elsewhere.
2. You must recognize profits in an LLC.
Many LLC owners choose for their LLC to be taxed as a partnership (compared to as a corporation). In such a case, profits of the LLC are automatically included in a member/owner’s income. A corporation, on the other hand, can elect if and when to make distributions to its shareholders. Essentially, a corporation is not always taxed on the corporation’s profits, often easing a shareholder’s annual tax liability.
3. LLC allows members to deduct losses.
Active members of an LLC can deduct the business’s operating losses against member’s regular income. Shareholders of a corporation are prohibited from doing so against their income, thereby imposing greater tax liability.
4. Greater ownership flexibility in an LLC.
Owners of an LLC can be, for example, individuals, foreign persons, other entities, or trusts. Depending on certain tax and liability consequences, your accountant may advise that someone other than you, individually, organize the LLC. In the context of corporations, most restrictions prohibit directors and officers of a corporation from being anything other than natural persons.
The forgoing overview is not intended to be an all inclusive list of the advantages and disadvantages associated with each entity type. The “correct” choice for you will depend on a consideration of all relevant factors. Accordingly, all entrepreneurs are urged to consult with their attorney and accountant before beginning their business journey.
All rights reserved. This publication may not be reproduced without the express written permission of Siana Bellwoar. This publication is designed to provide general information relating to the covered subject matter. None of the information is offered, nor should be construed, as legal advice. Although prepared by professionals, this publication should not be utilized as a substitute for professional services in specific situations. If legal advice or other expert assistance is required, the services of a professional should be sought.