What’s the Best Legal Form for Your Business Enterprise?
Black and Davison
When you’ve decided to open your own business, there are seemingly endless decisions to make. One of the most important is the legal form your business will take. The choice you make can have a significant impact on your exposure to liability, but can have tax consequences as well. Here’s an overview of the common business structures, with some of the advantages and disadvantages.
If you are truly going into business for yourself, this can be the easiest and best choice. With a sole proprietorship, you don’t have to file organizational documents with the state. You may need a business license—not all businesses in Pennsylvania are required to have a license. In addition, if you plan to do business under an assumed name, you will need to file a Registration of Fictitious Name form.
With a sole proprietorship, you are personally responsible for the debts and obligations of the business, and your creditors can have access to your personal property to satisfy a business debt. The income from a sole proprietorship passes through as ordinary income on your personal tax return.
If there’s more than one person involved in the ownership of the business, you might choose to set up a general or limited partnership. In a general partnership, all partners are “jointly and severally” liable, meaning that each partner can be held individually responsible for the debts of the partnership, and that creditors can have access to personal property to settle a debt. In a limited partnership, the limited partners typically don’t have any liability beyond their investment in the enterprise. Partnership income is pass-through income, treated as ordinary income on your personal return.
The principal benefit of the corporate structure is the limit it establishes on your potential liability. As a general rule, with a corporation, you are only liable for the amount of your investment. You can lose the entire investment, but the corporation’s creditors do not have access to your personal assets to satisfy debts of the business.
There are two types of corporations—S corporations and C corporations. S corporations, limited to a maximum of 100 shareholders, are treated much like partnerships when it comes to taxation—any income passes through to shareholders based on their ownership interest. With a C corporation, there’s “double taxation”—the corporation pays a tax and the shareholder also pays tax on distributions.
Limited Liability Companies (LLCs)
A limited liability company shares many traits with an S corporation. Tax treatment is the same, as is the protection from liability for the debts of the company. It’s typically easier to set up an LLC and there are fewer filing and recordkeeping requirements than for a corporation. In addition, there is no limit to the number of members you can have in a limited liability company.