Best Business Types For Your Company

Comparison of advantages and disadvantages of business types

One of the key decisions in starting a business is deciding what type of business to form. You’ll get a lot of advice from people but consider tax control costs and liability issues when tidying up.

This article will unravel the features and pros and cons of each major business type to help you make the best decision for your new business.

Key Takeaways

• The two basic types of businesses for tax purposes are corporations that are separate from owners and pass-through businesses that file business taxes through individual tax returns.
• Start-up costs and operational control Tax and liability issues are important factors to consider when choosing a business type.
• A business’s tax situation includes federal and state income taxes and whether owners must pay Social Security and Medicare taxes.
• There are different types of corporations and partnerships as well as special types of professional groups.
• The choice of business type is complex and can be costly so it is important to get help from lawyers and tax professionals

Factors to consider when choosing a business type

When you start a business or consider changing the type of business consider these four important factors in your decision-making process:

• The cost and complexity of running the business including legal fees and operating costs
• Ownership Control vs. Control vs. Profit and Loss Tradeoffs
• Corporate taxes and how businesses or owners pay taxes
• Liability of business owners for business debts due to actions of other owners and general liability

Basic Types of Business Organizations

Since tax is the main issue in deciding which business to choose here are the two basic types of business for income tax purposes explained.

Corporations

A company is a business separate from its owners called shareholders who buy shares in the company. These owners receive payments from the business in the form of taxable dividends. Some owners may also be executives or employees who are paid as employees In addition to collecting dividends from shareholders they also perform their duties.

Pass-Through Businesses

Pass-through businesses are so named because the business’ tax liability is passed on to the owner as part of the owner’s personal tax return. For example if a sole proprietor’s annual net income on its Schedule C is $25,000 that amount will be added to all other income The person (and their spouse if any) and any business and personal tax credits to calculate the person’s total tax liability for the year.

Sole proprietorship limited liability companies (LLCs) and S corporations (a special kind of corporation) are considered pass-through entities.

Some business owners—sole proprietors and LLC owners and partners in partnerships—are considered self-employed (rather than employees) and must pay self-employment taxes (Social Security and Medicare tax).

S corporation owners are not considered self-employed. When you look at the tax situation for one of these business types you should include self-employment tax.

Business Types in States

Corporate partnerships and limited liability companies (LLCs) must be registered in the specific state in which they plan to conduct business. States establish requirements and rules for business structures through their state business divisions or corporate offices. All states allow corporations Partnerships and LLCs but some variations of these basic business types may or may not be available in all states.

Check with your secretary of state’s office usually a business unit for more information on their registration process.

Sole Proprietorships (Sole Props)

A sole proprietorship is a business run by an individual. The business is not considered a separate legal entity from its owner and does not have to be registered with the state. There are pros and cons to this feature.

Professionally sole proprietors have full ownership in decision-making and are not accountable to the board of directors or other owners. It also means that the owner gets all the profits of the business. Taxes are fairly simple including Schedule C forms included in The owner’s personal tax return.

On the other hand it means that the owner has to bear all the losses of the business. It also means that the owner may be personally liable for the debts of the bankrupt business for litigation and general liability purposes against the business.

A sole proprietorship can be a good option or to start a new business with low risk before forming a more formal business. 1

Corporations (C Corps)

A registered business is separate from its owner in terms of sales tax and liability. The company is incorporated under the articles of incorporation under the laws of the state in which it operates. The cost of setting up a company is high because in addition to the state registration they must also have The Board of Directors regularly keeps minutes of meetings and other corporate records and reports to shareholders.

The company pays its own taxes and the owners pay dividends as shareholders which can be double taxation in some cases.

Two benefits of a merger are generally lower corporate tax rates and ease of raising capital from investors. 1

Professional Firms (PCs) and Professional Services Firms (PSCs)

Both types of firms are specifically designed for professionals in practice with other professionals.

A professional firm is a specific type of firm for a chartered professional such as a lawyer doctor architect or accountant. These professionals can incorporate companies in certain states and are protected by corporate liability. But in this type of business every professional is still Take responsibility for your own wrongful professional conduct. 2

Meanwhile Personal Services Companies (PSCs) are limited to providing personal services. To qualify for this status a PSC must meet certain IRS requirements including the share of stock owned and the number of services rendered by the owner’s employees. A wide range of areas of expertise can be PSC.3

S Corporations (S Corps)

A sub-chapter S corporation or S corp is a corporation that has a limited liability interest in the corporation but is taxed as a pass-through business such as a partnership. S corporation owners do not double tax their income but there are some limitations to choosing an S corporation Statuses include a limit of 100 shareholders and only one class of stock. 4

Taxes are fairly complex for S corporations because they must file federal tax returns have a separate schedule for the taxes due to owners and some states also tax S corporations.

Like corporations S corporations must have a board of directors and follow all of the corporation’s filing and operating procedures. 1

An S corporation is not formed by registering in a state. Before you can choose S corporation status with the Internal Revenue Service (IRS) you must first incorporate a corporation in your state. This selection must be made within a specific time period so consult a tax professional to ensure Elections are correct.

Limited Liability Companies (LLCs)

All states allow LLCs to be formed by registering articles of association or similar documents with the state and creating an operating agreement to govern member decisions including how they share the profits and losses of the business. LLC owners are called members LLC may have only one Members are called single-member LLCs.

LLCs are easier to set up than corporations but they have similar protections to corporate liability as corporations. 1

Another benefit of forming an LLC is that there are multiple tax options depending on the specific circumstances outlined below:

• A single-member LLC pays taxes on its individual tax return (use Schedule C as a sole proprietorship). 5
• A multi-member LLC is usually taxed like a partnership.
• Both types of LLCs have the option to be taxed like a corporation or an S corporation. 6

Partnerships

A partnership is an enterprise in which two or more individuals share business risks and benefits including the profits and losses of the partnership. Partnerships are fairly easy to get up and running. They must be registered in a state and sign a partnership agreement. they have some records Requirements but not as complex as the company’s requirements.

A partnership may include two types of partners:

• General partner who is involved in the day-to-day management of the business and is responsible for partnership debts and partnership actions
• A limited partner who is only an investor and does not participate in the day-to-day operations of the business or assume responsibility

Partnerships pay sales tax by filing an information return with the IRS to report sales tax liability. Due to the partner’s passing status no tax is payable on this form. Instead income or losses are distributed among the partners according to their agreement. then each Partners receive a Schedule K-1 form showing their share of the year reported on their individual tax return. 7

Partnership Options

There are several types of partnerships to choose from depending on the amount of responsibility the partners want to take on and the type of team working in the business:

A general partnership consists of general partners who individually make business decisions but each partner has unlimited liability for the debts and decisions of the other partners.

Limited partnerships (sometimes called LPs) have both general partners who are involved in business decisions and limited partners who invest in the business but are not involved in day-to-day operations. General partners are responsible for the company’s debts and actions but limited partners As long as they are not involved in business decisions they are exempt from liability. 8

A limited liability partnership (LLP) consists of general partners but none of the general partners is liable for the actions of others and employees. An LLP is similar to an LLC but operates under partnership rules. 1

Businesses with multiple owners or professional groups (such as law firms or CPA firms) typically use one of these partnership types based on their specific circumstances. 1

Certain states do not allow limited liability partnerships and they may be limited to certain types of occupations such as doctors lawyers and accounting firms. Check with your state if you are considering this type.

Frequently Asked Questions (FAQs)

Do I need a lawyer to start a business?

You probably don’t need a lawyer to start a sole proprietorship because you don’t have to register the business or enter into contracts with other owners. For other business types get help from attorneys and tax professionals. A lawyer can help you prepare and file important documents and Consider your responsibilities and a tax professional can help you analyze your tax situation.

Which type of business is most common?

A sole proprietorship is the most common type of business in the United States. A survey by the Tax Foundation found that 23 million sole proprietorships operated in 2014 compared to 1.7 million for C corporations and 7.4 million for partnerships and S corporations. 9

Which type of business has the least personal liability?

Here are the general liability rankings for owners of the major business types discussed in this article:

• Companies have the least liability because they are completely separated from the owners.
• LLC owners and S corporation owners have limited liability in much the same way as corporations. 10
• The limited partners in a partnership also have limited liability because they are only investors but the general partners do not have limited liability because they are involved in the business.
• Sole proprietors take full responsibility because the owners and their businesses are linked for tax and legal purposes.