Setting up a small business

A business venture can = be structured into one of many legal forms.It = may be set up as a:<= /p>

Sole Proprietorship
Partnershi= p
LLP (Limit= ed Liability Partnership)
C-Corporat= ion
S-Corporat= ion
LLC (Limit= ed Liability Company).

You may want to decide a= gainst a C-Corp, because C-Corps generate two levels of federal income tax.
The C-Corp pays one level of tax when it files its federal corporate tax return, Form 1120. A second layer of tax occurs when the C-Corp’s profits are distributed to the shareholders as dividends. Those dividen= ds are reported and taxed on the individual’s Federal Tax Return, Fo= rm 1040. Together, these two levels of taxes are referred to as “dou= ble taxation.” In addition, state taxes also typically apply to both = C-Corp profits and distributed dividends.

When all factors are taken into account, the tax picture f= or C-corps is far from ideal for small businesses.

Becomi= ng a sole-proprietor eliminates the double taxation curse. There are no corporate taxes to pay, since no corporate entity exists. In other word= s, you only pay individual taxes on your net profits, which are typically reported on Schedule C of Federal Tax Return, Form 1040.

However, as a sole propr= ietor, you lack the legal protection that corporate status gives you. Simply stated, the owners of corporations enjoy limited liability, but sole proprietors do not. In other words, if you are a sole-proprietor, your personal assets are at risk if the business is sued, since the law sees= you and the business as one and the same person.

The same rules apply to ordinary partnerships, except that partnerships have more than one owner, in which case there are other legal ramificat= ions relating to the capital, profit and loss sharing and the management of = the business. In most cases a partnership agreement covering these situatio= ns is drafted and agreed to by the partners.

That leaves LLCs, LLPs= and S-Corps.

LLPs and LLCs a= re similar in many ways. One key difference is that L= LPs must be owned by more than one individual. Remember, the “P”= ; in LLP stands for partnership---by definition a single individual can̵= 7;t own a partnership. So if you had an LLP with two owners and one dies, serious problems that could even cause the business to close may result. The final choice now remains: S-Corp or LLC? Which is more appropriate = for your business? Well, they both share one crucial tax attribute: they are “pass-through” entities.

This means both S-Corps and LLCs allow you = to avoid double taxation and operate a business without paying corporate taxes. As with a sole proprietorships and partnerships, net profits are attributed to the owners and are taxed when you file your individual tax return (Form 1040).

When choosing between an S-Corp and an LLC you need to consider many th= ings. What may be appropriate under one set of circumstances may not be in another. Every business is different, and e= very owner has different needs and expectations.

The S-Corp concept was created in 1958 and had for many years been the standard form of organization for conducting a small business. S-Corp status provides a way to avoid the double taxation (business & pers= onal taxes) imposed upon C-Corps. One advantage of the S-Corp is that income= is taxed personally to the share-holders.

However, your personal risk remains limited to the amount invested. In other words, double taxation is avoided with the protection of limited liability.

In order to attain S-Corp status, a special election on Form 2553 has t= o be made. Please note however that the “S” status of the Corporation only impacts taxes. Shareholders of S-Corporations have all= of the same legal protections as those in C-Corps. But as once said by a famous Tax Court judge, “becoming a corporation is like a lobs= ter pot". It’s easy to get into…difficult to get out of.” In other words, once you have established an S-Corp, it would first have to be liquidated if you wanted to change to an LLC.

LLCs (Limited Liability Companies) started = in 1977 in Wyomin= g and have quickly become the preferred manner of = doing business across the country. By default, LLCs with more than one owner (member) are taxed as Partnerships, while single-member LLCs are taxed as sole proprietorships. As with S-Corp, with an LLC you only pay taxes with yo= ur personal return.

However, if you decide to do business as an LLC, you are not stuck with= it. Through special arrangements, an LLC can be set up to become an S-Corp without having to liquidate. There is little risk of triggering a tax by changing from this form of doing business.

Setting up business as an S-Corp is relatively simple and inexpensive. = The task is achieved by completing a series of documents that require you to complete the following information: who will own the business, the business’s activity, address, and other miscellaneous details.

Apart from being registered as an “Inc., Co. or Corp.”, a corporation can also be registered as P.C. (Professional Corporation). = This designation is for professionals who choose to operate in corporate form and is popular with doctors, lawyers, and accountants. An LLC requires a bit more work to get started. Articles of Organization, like a Partners= hip Agreement, need to be drafted and filed with the state. In addition, business information about the LLC needs to be placed in a published ad= to give notice to the public that the company is being started. An LLC can choose to be registered as a P.L.L.C. (Professional Limited Liability Company) when its owners are licensed by the state to engage in a professional practice -- doctors, lawyers, accountants, and so forth.
An S-Corp can often be more restrictive than an LLC. There can be no mo= re than 75 shareholders in an S-Corp. In addition, only individuals, estat= es & qualifying trusts can qualify as shareholders. An S-Corp may not = have any non-resident alien share-holders. There can only be one class of st= ock ownership. Adding a second category or class of ownership terminates the “S” Election, which could lead to unintended and unexpected= tax consequences. The income and expenses from an S-Corp are allocated on a per-share/per-day basis. However, the net income of the business would = be exempt from self-employment taxes on your individual return.

LLCs offer more flexibility than S-Corp. Th= ey can have an unlimited number of owners and any person, business or trust can own one. So which is better, the LLC or the S-Corp? It depends. LLCs are often preferable when setting up leverag= ed ventures such as a real estate or investments.

S-Corps may be better when the business is not a service-oriented ventu= re. Non-service S-Corps do not have the obligation to pay out all profits as wages. This allows the shareholders to distribute profits without being subjected to payroll taxes.

The ultimate decision as= to which entity is best for you is not an easy one. In addition to the poi= nts mentioned here, there are also estate planning, pension & state tax implications as well. These laws are highly complicated and mistakes can prove extremely costly.