What Every Small Business Owner Should Know About Incorporation
By NellieAkalp on January 26, 2012
More and more women are coming into their own as business owners today. In fact, an American Express OPEN State of Women-Owned Businesses Report found that between 1997 and 2011, the number of women-owned businesses increased at a rate 1.5 times higher than the national average.
If you’ve joined the growing ranks of female business owners (whether as a blogger, yoga instructor, or CEO of a widget manufacturer), you know the hectic reality of today’s entrepreneur. In the flurry of dreaming up new ways to expand your client base or planning your advertising, it’s all too easy to put off some of the legal aspects of your business.
Legal business structures may not be the most glamorous part of your business, but they can be absolutely critical. Yet, most entrepreneurs don’t know the difference between an LLC or C Corp, much less which structure is right for them. After working with small businesses across various industries, I’ve assembled the key things you should know when it comes to incorporating or forming an LLC for your business:
Why incorporate or form an LLC in the first place?
Any entrepreneur, even a self-employed writer or home-based SEO consultant, should consider forming an LLC or creating a corporation. Here’s why:
- Liability protection: First and foremost, the LLC and the Corporation protect your personal assets from any liability of your company. This means that if your business is sued or can’t pay its debts, your personal assets are shielded from any judgment. Of course, there’s a slim chance your business will run into any of these troubles. However, if you’re sued as a sole proprietor, you’re sued personally, putting everything from your retirement savings to children’s college fund at risk. You also want to keep in mind that creditor judgments can last up to 22 years, so this can impact not only the assets you have today, but whatever you have tomorrow too.
- Taxes: Federal income tax rates can be lower for corporations than for individuals. And as a corporation, you may be entitled to additional deductions. Of course, you should consult a tax advisor or CPA about your specific situation.
- Credibility: The LLC or Inc. after your company name boosts your credibility in the eyes of some customers and clients.
- Business credit/capital: It can be easier for LLCs and Corporations to access a line of business credit. Forming a C Corporation will be essential if you plan to seek Venture Capital funding.
- Added layer of privacy: With an LLC or a corporation, the company’s ‘registered agent’ goes on public record, and not your home or business address (in most cases).
Which business structure is right for me?
Your choice in legal structure is an important decision, so let's start at the beginning. The three most popular business structures in the U.S. are:
- LLC (Limited Liability Company): The LLC is great for a business that wants liability protection, but seeks minimal formality. In an LLC, the owner’s personal assets are shielded from business liabilities just as they would be in a Corporation. Most notably, the IRS views the LLC as a “disregarded entity”. This means that an LLC does not file separate taxes; company profits and losses pass through to the owner’s individual tax returns and are subject to each owner’s individual tax rates. The LLC is the perfect structure for a business with foreign owners since anyone (C Corp, S Corp, another LLC, a trust, or an estate) can be an owner of an LLC.
- C Corporation: The C Corporation is not recommended for small business owners. Instead, it’s ideal for a business that intends to raise capital by issuing stock or attracting investors through VC funding.
- S Corporation: An S Corporation is great for a small business owner who can qualify: The IRS places limits on the number of owners and who can be an owner in an S Corporation. Plus, all owners are taxed based on their percentage of ownership.
Forming a corporation or LLC can be pretty painless and affordable today. And for those of you who cringe at the thought of piles of paperwork, the LLC offers the same legal protection of a Corporation with minimal formality.
No matter how busy your schedule may be, take some time to learn about forming an LLC or corporation, and which business structure is right for you. It might be one of the easiest and wisest things you do for your business.
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