If you are starting your own business, you will have to consider what tax entity your company will operate under. This important decision will establish the structure of your business, as well as the personal risk you are prepared to accept and the investment opportunities your business may provide. Because this decision can affect so many aspects of your business, it is important to be well-educated on your options before making making up your mind.
Sole proprietorships are easy to set up and involve only one individual owning and operating the business. It gives the owner complete control, but it mingles the owner’s business and personal assets and liabilities. The owner does not need to file with Texas before forming the business and will report business profits and losses on his or her personal tax return. However, funding for the business can be a challenge because the owner cannot sell stocks and banks may not want to lend to sole proprietorships.
When more than one person wants to own a business together, a partnership is the simplest structure. It is easy to form and easy to dissolve if the partners decide to go their own separate ways. Like a sole proprietorship, a partnership does not have to be filed with the state. Investing partners will be personally liable for the business and will report profits and losses on their personal tax returns.
LLCs and LLPs
A limited liability company (LLC) and limited liability partnership (LLP) are structures where the business is legally separate from the owners. This means that an owner’s assets, like a vehicle or home, cannot be taken if the business goes through bankruptcy or a lawsuit. Although this separation is traditionally associated with corporation structures, LLCs and LLPs can be taxes as a sole proprietorship or a partnership. Also, unlike some corporations, there can be an unlimited number of partners and annual shareholder meetings are not required.
The C corporation structure allows for a business to be a separate legal entity from the owner. C corporations may require more paperwork than other structures, and unlike some other structures, C corporations pay income tax on their profits. Sometimes this tax gets paid both when the company makes profit and when dividends are paid to shareholders. However, C corporations can sell stock, and offer owners the strongest protection against personal liability.
The structure of an S corporation is designed to avoid the double taxation that is common with C corporations. An S corporation has an independent tax and legal structure from the owners, and there is some protection of owner’s personal assets from business debts and liabilities. Investing partners will report profits and losses on their personal tax returns. Also, the number of shareholders will be restricted and annual shareholder meetings are required.
Selecting a tax entity for your business is in important step toward starting your business. However, when you fully understand of each option, you will be best prepared to select the structure that suits your vision for your business.