If you’re starting a business, then it’s best that you register it formally. It’s true that there are tedious steps to follow, and fees involved. But the benefits more than outweigh the costs.
A formally registered business protects your personal assets from corporate risk, such as from your business creditors. It also allows you to deal with taxes more efficiently. You’re able to hire employees if you need to.
Plus, it also helps with your business reputation when your business is publicly recognized. It reassures your vendors, suppliers, other businesses that may enter a contract with you, and your customers.
Choosing to register your business is one thing, but deciding on what business structure to adopt is another. You have 3 choices: to form a limited liability company (LLC), a sole proprietorship, or a corporation. To make the right choice for your business, you need to know more about these options.
Quick Overview of Sole Proprietorship
A sole proprietorship is when you don’t actually form a business entity separately. Legally speaking, you yourself are the business.
Because you don’t really form a business entity, you’re likely quicker to get your business off the ground. The setup is easy and the cost is low.
You don’t have to deal with corporate paperwork to maintain your company status. You don’t have to pay any corporate taxes, and you don’t need to file annual reports.
And since you’re the sole proprietor, you get all the profits of your business. You’re in complete control. You just do your business. You can even change the rules of doing business as you go.
On the other hand, your personal assets are at risk. That’s because you are the business, and therefore your personal assets are also your business assets.
If your business is sued, then it actually means you’re being sued. You’re personally liable for all your debts and liabilities. All your assets may then be used to cover these debts, including your bank account, your home, your car, and all your possessions.
You’ll find that it’s more difficult to get investors interested in your business with a sole proprietorship as well. And from some perspectives, running a sole proprietorship may be viewed as somewhat unprofessional.
Quick Overview of LLC
The limited liability company is a legal entity and a type of business structure that’s mainly geared towards protecting your personal assets from your business liabilities. For example, if your business gets a loan that it’s eventually unable to pay back, then your creditors won’t be able to go after your own personal bank account (and your house) to get their money back.
You can use an LLC to run your business, or form it to hold your assets such as expensive vehicles like airplanes and boats, or for real estate.
If you own an LLC, then you’re the member. An LLC can be owned by just a single person, and it’s then called a single-member LLC. With more than one owner for a single LLC, it’s called a multi-member LLC.
Compared to a corporation, the initial documentation work and the involved fees are generally lighter. Managing the business is also more flexible, as you’re not hampered by more stringent management rules. All the members may help with the day-to-day company decisions, if they want. Or the members can appoint a manager (or managers) from among their number. They can even appoint non-members as managers.
Taxation is also generally less onerous. Your profits aren’t actually taxed on the corporate level. Instead, the profits all go to the members.
So, if you’re a member, it’s easier to file your federal income tax returns. The money is only taxed once. And even if your LLC loses money, you can at least lower your personal income tax returns.
On the other hand, the LLC doesn’t provide absolute protection for your personal assets. If you don’t clearly separate your personal transactions from your business deals, then your personal assets can be at risk. The same is true if you commit fraud while doing business, resulting in losses for other people. These people can then go after your personal assets to recoup their losses.
Also, some states insist that an LLC must maintain the same members while it operates. If one member leaves or passes away, then the LLC must be dissolved. Of course, the remaining members can still do business. It’s just that they have to formally form a new LLC to continue on.
Quick Overview of Corporation
This also protects your personal assets. It offers the most reassuring business structure for potential investors. You have stock options to offer, which you can also use to lure in topnotch employees. The entire business structure is designed to let the company grow. The corporation can also continue on regardless of whether an owner leaves or passes away.
On the other hand, this business structure is a lot more complicated. There are many requirements to meet, and lots of paperwork to deal with. The management system is a lot more formal.
You may also have to deal with double taxation. That is, your business profits will have to be taxed on a corporate level. Then, when you distribute the profits among the corporate shareholders (including you), then you’d have to pay personal taxes on those profits.
Pick the Right Business Structure
Which one is best? The answer won’t be the same for everyone. The better question is, which one is the best for you? And it all depends on your situation.
Pick Sole Proprietorship If:
If you’re simply running a small sideline with just yourself, then it makes perfect sense to go with a sloe proprietorship. There’s no tedious paperwork involved, and you can just do business as you please. For example, if you’re a freelance online writer, then you can just work for yourself right away.
A sole proprietorship also makes sense while the business is just starting small. You can always change the business structure formally if your business somehow grows a lot bigger in the future.
Pick LLC If:
This is the best choice if you’re growing a business and you want to protect your personal assets from your corporate liabilities. It’s a great format when you’re starting a business with other co-owners. It gives you a modicum of respectability as well, when dealing with suppliers and vendors.
The advantage with taxes that you get with the sole proprietorship remains with the LLC. You don’t get taxed on a corporate level, so you’re just dealing with your personal income taxes.
Pick Corporation If:
If you’re truly serious about the business, and you have high hopes of making it big, then this is the best choice. If your endgame scenario is to launch an IPO, or to have your business bought off by another huge corporation, then this is the business structure you need.
Just pick the right business structure for your current needs, and you should be okay!