Laying Your Business Foundation, Part 2: Business Formation

In this series we will take about business formation. If you have not read Part One, stop what you are doing and read the article now.

Again, laying your business foundation requires the same intensity as building a bridge, school, museum or any beautiful structure. It takes planning, time and execution, which means doing whatever, needs to be doing to complete the project.

I cannot tell you which business formation is best for your business, only you can make those types of decision. Your attorney, spouse, children or friends cannot shape your reality for you, it’s personal. Before making a decision or selecting which business formations consult with a licensed attorney and accountant to advise you of your legal rights.

Let’s begin…

Sole Proprietorship (SP)

The term “sole proprietorship” means that the business is the same as its owner. The assets and liabilities of the business are one and the same as the owner. There is no mandatory filing requirement on the state level; however, a sole proprietor may register a trade name. Although I do not recommend this entity; however the choice is yours.

Advantages

No other documents needed to open a bank account; purchase materials or supplies needed for the business and you can file taxes under your name. There are other reasons but these are the main reasons for doing so.

Disadvantages

You are responsible for any lawsuits against your company; therefore, this will affect your family well-being. Lenders do not see your business entity as a mom and pop business without any growth. Vendors are less likely to extend credit for major purchases. Contractors, governmental agencies prefer to utilize the services of a company that is not a sole proprietorship.

Incorporated (Inc)

A corporation is a type of legal entity, often formed to conduct business. A corporation is an institution that is granted a charter recognizing it as a separate legal entity having its own privileges, and liabilities distinct from those of its members. The incorporated entity can be very complex; however, you can delegate these complexities to someone who is skilled with incorporation such as an attorney or accountant who are knowledgeable about business laws and taxation.

Advantages

Your business will be accepted as a major contender within the business arenas. You and your businesses are separate entities which mean if your company is ever sued or liable the plaintiff can only charge the company not you personally. Lenders are more apt to lend funds to an established corporation entity compared to other business structures. You are telling the world that you are serious about expanding, growing and or selling your business. There are a number of good advantages to this particular entity and the decision is entirely up to you.

Disadvantages

The number one disadvantage is double taxation. You or your account will have to file taxes in the company name and your name. This drives most potential companies to sway from incorporating under this business entity. Contact your attorney and account to help you navigate through the incorporation process.

Limited Liability Corporation (LLC)

A form of business whose owners enjoy limited liability, but is not a corporation. The State of Wyoming is known as the LLC formation capital since 1976.

Note: Wyoming is not the only state that welcomes LLC formations.

Advantages

LLC members are afforded limited liability and have pass-through taxes similar to a partnership. By forming LLC instead of a corporation, you get all the benefits of forming a corporation but you avoid a few drawbacks that you would run into if you formed a corporation. Specifically, when you form a corporation, you subject yourself to double taxation and excessive paperwork. Both of those annoyances can be avoided if you form LLC. The LLC allows for multiple owners, or members. Additionally, there is a managing member, who also enjoys the benefits of limited liability and is typically the person responsible for managing the business. Members of LLC can be other companies, trusts, organizations or individuals. Members share power, ownership and responsibility over the LLC operations based upon an agreement each member signs upon formation of the company.

Note: If you are the only LLC member or manager you are allowed to use the 1040 or 1040-A filing forms. Check with your accountant or tax provider for advice.

Disadvantages

The entity we were forming will be seeking outside investment and will be offering stock options to employees. Many angel investors and venture capital firms are not lenient about investing in LLC because it’s a new business formation that is not well understood. When raising capital, it helps to keep things simple and avoid anything that makes an investor think twice.

Limited Liability Partnership (LLP)

A partnership where a partner’s liability for the debts of the partnership is limited except in the case of liability for acts of professional negligence or malpractice. In some states LLP may only be formed for purposes of practicing a licensed profession, typically attorneys, accountants and architects. This is often the only form of limited partnership allowed for law firms (as opposed to general partnerships).

Advantages

Both LLC and LLP entities are treated as pass-through entities for federal tax purposes. This means that the owners report company profits and losses on their personal income tax forms. The business itself is not subject to a federal income tax, as a corporation.

Disadvantages

LLP offer the same type of limited liability that of LLC; however, some states require a minimum of one partner of LLP liable for the obligations of the company. There are other business formations; however, these are the most popular.

Until Next Time! Stay tuned to “Laying Your Business Foundation.”

The overall scope for choosing a business formation is to give your business an identity that is separate your personal identity. Doing so will level the placing field within the business community should you choose to grow or expand your business. The topic of discussion for the next article of “Laying Your Business Foundation – Part 3”: Customer Service.