Understanding On What Entity fits Your Needs!

Choosing an Entity: How to Pick the Best Structure for Your Business

The entity you select for your business will have a lasting effect on the future of your venture. Structuring your business properly will impact issues from ranging from employment taxes to your bottom line profit. In many cases choosing the incorrect structure can result in financial devastation. Don't panic. Businesses can be restructured, and often should be as they grow or move in new directions. However, it is certainly beneficial to be in the best position as soon as possible.

An accurate understanding of what entities exist and what they offer is critical. There is no one right entity. Rather your needs, goals and numerous factors from the size of your business to the need for start-up funds will all play a role. Here are the basics. 

Taxation and Liability: Sole Proprietorship and C (Regular) Corporations

Two major differences among all the entities are how taxation and liability are handled. For instance, sole proprietors and C Corporations are double taxed, while the pass-through entities are not. A sole proprietorship, limited to a single owner or married couple, is the simplest form of entities. The double tax comes into play because income is subject to both self-employment tax and income tax. Also, the owner has complete control, but is personally liable for the business's debt and obligations.

C corporations are also double taxed due to a primary corporate tax on earnings, and a secondary tax on the shareholder's dividends. C Corporations tend to be large and have many owners. They are also subject to legalities such as keeping corporate minutes and holding shareholder meetings.

Partnerships and Pass-through Entities

Partnerships differ from corporations in that they do not pay taxes. Rather, the partners are responsible for the taxes on their personal returns. There are two types of partnerships: general and limited.

General partnerships require at least two members who are personally liable for the obligations of the business. Personal assets are also subject to any liabilities under this structure.

Unlike a general partner, a limited partner is only responsible for business obligations to the extent of their investment. In this situation, only the general partner would oversee the daily operations of the business.

LLC and S Corporations

While labeled a corporation, the LLC is neither a corporation nor a partnership. Rather it draws upon the most desirable traits of each. Less formal and more flexible, the LLC keeps members' assets separate from the business, thus offering the liability protection. However, an LLC is taxed as a partnership and therefore avoids the double taxation.

The other option is the S Corporation. By formally electing this status, a company that would otherwise be classified as a C Corp can elect to be taxed as a pass-through entity, and avoid double taxation. Only salaries paid to employees of an S Corporation are subject to employment tax, which offers an advantage over an LLC. However, any officers who perform daily service are required to receive a reasonable salary. Any shareholder distributions are not taxed in an S Corp.

Setting a Good Foundation

Just as research, a business plan, and a good location will affect your business success, the form of entity in which you structure your venture will impact your financial future. Whether a start-up company just setting up the books, or a cornerstone of the community reevaluating the needs of your organization, there are many things to consider when looking at entities. Your analysis should include: liability protection, the potential for mergers, limitations on ownership, allocation of tax items, employment taxes and distributions of property. Since there is so much to take into consideration, it is always a good idea to consult a professional. The entity of your business creates a solid legal and financial foundation for the growth and prosperity that will come.