Corporations, LLCs, and Partnerships… Which one is best for your business?
One of the most important decisions that every business owner must make is choosing a business structure. However, very few entrepreneurs know the differences and benefits of the various business entities available. As a result, many new business owners find themselves in a business structure that either, (1) Doesn’t protect their business and personal assets, (2) Requires more formality and paperwork than the owner(s) desire, or (3) Doesn’t allow the business owner to maximize profits and reduce tax liability.
At CSGEAST.COM we provide our clients with expert advice regarding Business Formation & Organizational Structuring. We advise our clients to consider the following when deciding upon a business structure:
SOLE PROPRIETORSHIPS (SP)
A Sole Proprietorship is probably the simplest business structure to form. It typically requires no formal filings with the State or local government besides obtaining any business licenses, permits, or insurance coverage that may be required.
However, a SP is also probably the worst business structure.
A SP exposes the owner to 100% personal liability for all business debts and liabilities. If your business is sued or falls behind on debts your home, personal bank account(s), and all other personal assets may become fair game for a Plaintiff or lien holder.
Did you know that if you do not have an incorporated business entity (Corporation, LLC, or LLP) the law typically defaults your business to a Sole Proprietorship?
GENERAL PARTNERSHIPS (GP)
A General Partnership is another simply formed business structure that has two (2) or more Partners. Similar to a Sole Proprietorship, all Partners are personally “equally and severally” liable for all business debts and liabilities.
For Example: You and your Partner incur $100K in debt which you can’t repay to the Lender. The Lender obtains a judgment against the GP. You happen to have $100K in equity in your private residence. Even though you and your Partner each have a 50% interest in the company and our responsible for 50% of the debts and liabilities, the Lender can attach the judgment to your house for the entire $100K. Your only recourse would be to recover the $50K from your Partner. (Good luck with that.)
LIMITED LIABILITY PARTNERSHIPS (LLP)
A Limited Liability Partnership (LLP) has a minimum of two (2) Partners. However, at least one Partner has to be the General Partner and thus assumes personal liability for the debts and liabilities of the LLP. The other Partner(s) are only liable for the amount they have invested in the LLP.
The LLP can be a good business structure. However, the tax implications can be one disadvantage. An LLP is taxed based upon the LLP’s Earned Income (EI) and not the Distributed Income (DI). This can ultimately result in the Partners paying taxes on money that they never actually realize.
For Example: If a two member LLP earns $100K but decides to reinvest the entire amount back into the business and not disburse any of it to the Partners, the Partners may still be required to report and pay taxes on the $50K (EI) even though they never personally received or spent one penny of the money.
CORPORATIONS (C & S)
Corporations are probably the oldest and best known business structures. If operated correctly they typically offer nearly 100% personal liability protection to the Shareholders. The Corporation required the filing of the appropriate documents with the Secretary of State in the jurisdiction in which the business operates and the drafting of Bylaws and other documents that govern the operation of the Corporation.
A C Corporation is usually classified as the “double-taxation” business structure. The rational behind the label is that the income for the Corporation is taxed at the “corporate level” and then again at the “personal level” when the Shareholders receive dividends.
In an effort to avoid “double taxation” a Corporation may elect to be a “Sub Chapter S Corporation”. This allows the income to “pass through” directly to Shareholders and avoid the “corporate tax”.
Corporations are very formally operated business structures. They require meetings, minutes, and other “corporate formalities” that can be cumbersome. Moreover, failure to follow these formalities can result in the “piercing of the corporate veil” a procedure by which a court can allow the Shareholders to be sued as individuals. As a result, the Shareholder’s personal assets can be attached for the Corporation’s debts and liabilities.
Limited Liability Companies (LLC)
The Limited Liability Company is the “new kid on the block” and is commonly referred to as a hybrid of the other business structures. It offers the personal liability protection of a Corporation and the “pass-through” tax benefits of a Partnership. Moreover, the LLC does not require the “corporate formalities” of the Corporation.
It would be nearly impossible to discuss all of the intricacies of each business structure in this format. However, it is imperative that entrepreneurs and business owners make informed decisions when structuring their businesses.
Choosing the wrong business structure could literally cost you everything including the kitchen sink.
Do business correctly or don’t do business.
CSGEAST.COM
Providing Solutions To Build Better Businesses.
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