Selecting your business entity type is an important decision that should be made at the outset of your business activity and considered when certain changes occur (e.g., adding business partners or seeking investment).
The implications of different entity types may adversely affect your business if not properly considered. On the other side, key benefits and advantages may be available if certain actions are taken to establish your business type.
Fun fact: every business has an entity status by default.
It all boils down to Complexity vs. Liability.
Entity types which require a greater amount of complexity due to the requirements of state registration, legal documents, etc. also provide the greatest protection for an owner’s personal assets. Depending on the level of your business activity, these costs up front can pay off exponentially when personal protection from business debts and/or other owners is required.
A Limited Liability Company (“LLC”) is generally thought of as the simplest entity type that helps an owner separate personal liability from the business’s liabilities. LLC’s provide similar liability protection as a traditional corporation, however the setup costs are substantially lower.
LLC’s and Partnerships provide flexible ways for business owners to operate, however they are taxed very differently than most corporations. While corporations pay their own taxes, business income and losses of partnerships and LLC’s taxed as partnerships, are passed to their owners. The resulting income and losses are then taxable to the owners personally. Owners should be aware of these tax rules and plan accordingly.
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Beyond the initial setup and liability concerns, the chosen entity type also impacts the day-to-day financial operations. Proper bookkeeping and accounting are essential, especially given the different tax implications discussed. Utilizing robust systems, like QuickBooks Online, can help maintain accurate records and simplify tax preparation. In complex cases, or to ensure compliance, consulting a professional, such as a QuickBooks ProAdvisor, can be a valuable resource.
Looking to raise money? Many investors and venture capitalists prefer the traditional corporate structure if they are making a significant investment. This is because the corporate entity type is less flexible and the investor can be confident in the rules and operation guidelines set forth. However this isn’t always the case as certain investors may seek out the specific advantages found in the partnership/LLC entity type such as flexibility and/or certain tax benefits. Understanding current owners’ and future investor’s goals will assist in deciding whether you have the optimal entity type.
Have questions about which entity to choose? Contact Us.
Disclaimer: The information provided in this blog is for general informational purposes only. It is not intended as accounting, tax, legal, or other professional advice. You should not act or refrain from acting on the basis of any content in this site without first consulting a financial or tax professional. We are not liable for any potential errors or omissions in this information or for any actions taken based on this information.
