This is one of the most important questions to answer when planning a new small business start-up. The structure you choose will affect everything from paying taxes to assigning liability, from raising capital to sharing profits. Each type of structure has trade-offs that should be fully understood and reviewed with legal and tax professionals. The most common choices are:
Sole Proprietorship. This is an unincorporated business owned by one person. Paying taxes is relatively simple because the owner reports income/losses along with their personal taxes. However, the owner is personally liable for any business-related expenses or liabilities. While there are no corporate registration requirements, sole proprietors still must comply with local registration and licensing laws.
Partnership. Two or more people share ownership. Each contributes time, resources, expertise, and or money to the business in return for a share of the business. Each partner is also responsible for their own actions, as well as business debts and decisions made by other partners. A carefully drafted partnership agreement reviewed by an attorney is a must. It should detail each participant’s contributions and responsibilities, division of profits, resolution of disputes, and the handling of other major business decisions.
Corporation. This is an independent legal entity owned by shareholders. Corporations inherently have complex administrative, tax, and legal requirements. Corporations can sell various types of shares in a business to raise capital. Shareholders are not legally liable for the business’s actions and debts.
S Corporation. Under IRS regulations this special type of corporation is often used in situations where the shareholders are also employees. An S corporation distinguishes between shareholder/employee wages and other profit distributions, which are taxed at different rates. S corporations carry the same legal and administrative requirements of “regular” corporations.
Limited Liability Company (LLC). This has become a popular structure for small businesses in recent years. They are relatively simple and inexpensive to establish. LLCs offer a corporation’s limited liability with a partnership’s flexibility and simplified taxation. There are also fewer recordkeeping requirements. It is up to the LLC’s owners (known officially as “members”) to determine profit distribution. LLC members must pay self-employment taxes and make their own Medicare and Social Security contributions.
SCORE, “Mentors to America’s Small Business” is a part of the US Small Business Administration. It is an organization of volunteers who provide free unlimited confidential counseling to existing business owners and entrepreneurs considering a startup. If you would like a confidential review of your situation, you can schedule a meeting at Score.org or you may call 610-376-3497 in Reading, 570-205-3985 in Pottsville, 610-327-2673 in Pottstown or 717-397-3092 in Lancaster to speak to a volunteer.
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Funded, in part, through a Cooperative Agreement with the U.S. Small Business Administration. All opinions, and/or recommendations expressed herein are those of the author(s) and do not necessarily reflect the views of the SBA.