Choosing the proper legal structure for your business is your most important decision as an owner. The structure you choose will determine not only how you will be taxed on your income but also the benefits you will enjoy as an owner, the protection provided on your non-business-related assets, and, ultimately, your chances of success.

  Fortunately, your business structure can be changed as your goals and needs change. However, changes in structure require professional guidance to ensure proper compliance with appropriate regulations and agencies. (We can walk you through the initial structure requirements as well as any subsequent changes.)

  The various business structures are summarized below.

  Sole proprietorship – This is the simplest form. In Pennsylvania, the only requirement (if there are no employees) is a fictitious name filing. In Delaware, a business license is required. At year end, the owner files Schedule C with the annual Form 1040. Profits from the business are subject to a self-employment tax (your Social Security/Medicare tax.) Under this structure there is no protection for your personal assets.

  PartnershipThis structure resembles a sole proprietorship involving more than one person. In most cases, an annual partnership income tax return is filed but no tax is paid at the partnership level. Profits (and losses) flow to the partners’ individual tax returns. As in the case of the proprietorship, no protection exists for the personal assets of the owners; each general partner is liable for the debts and obligations of the business. Where there is a limited partnership, each partner’s liability is limited to his investment in the business.

  C Corporation – This is the "regular" corporate structure. The corporation pays taxes on the profits it generates. The owner pays taxes on dividends declared to the shareholders. (Here is where the double taxation complaint is generated.) This structure is usually preferred if venture capital financing is involved. It is also the most advantageous for achieving an initial public offering (IPO) and allows for several classes of stock.  In most cases, this structure protects the owners' personal assets.

  S Corporation – Profits and losses from this structure flow to the personal income tax returns of the shareholders. There are restrictions on the number and type of shareholders, and only one class of stock is permitted. In certain situations, this structure is preferable for optimizing tax planning. In most cases, this structure protects the owners' personal assets.

  Limited Liability Corporation – This structure provides for protection of the owners’ assets but can be considered a partnership for tax purposes. When that election is made, all profits and losses flow to the members’ (partners’) individual tax returns. This structure protects the owners’ assets while being taxed as a partnership and is used mostly in rental real estate businesses. For a trade or business, the members are usually subject to self-employment tax. Where there is only one owner, no additional federal return is required.  This choice of entity can also elect to be taxed as a C or S corporation.  The biggest difference in being an LLC in this case is the ease of operating the corporation from a structural basis.  Annual meetings and minutes are not required.

 

 


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