With a new year upon us, you may be thinking of things like New Year's resolutions and dreams you've had year after year. One big dream that a lot of people have is starting a business. Deciding to start your own business is a big step, one that requires special planning and thought. But where do you start? The first step is to decide the type of entity that is best for you.
Choices, Choices (of Entity, That Is)
Here are the five most common choices of entity structure for businesses for profit and a few of their characteristics.
1. Sole Proprietorship
- There must be only one owner of an unincorporated business by himself or herself.
- Business income or loss is reported on your personal income tax.
- The owner is personally liable for all debts of the business.
- There must be two or more persons who join to carry on a trade or business and expect to share in the profits and losses of the business.
- They must file an annual return (Form 1065) with the IRS although the partnership itself does not pay income tax. Income instead passes through to each partner via a form K-1 based on his or her share of the partnership's income. The K-1 is then reported on their personal tax return.
A C corporation is recognized as a separate taxpaying entity. A corporation conducts business, realizes net income or loss, pays taxes and distributes profits to shareholders.
The profit of a corporation is taxed to the corporation when earned, and then is taxed to the shareholders when distributed as dividends. This creates a double tax. The corporation does not get a tax deduction when it distributes dividends to shareholders and shareholders cannot deduct any loss of the corporation.
4. S Corporation
S corporations are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes.
Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income.
S corporations are responsible for tax on certain built-in gains and passive income at the entity level.
5. Limited Liability Company
- A Limited Liability Company (LLC) is a business structure allowed by state statute. Each state may use different regulations, and you should check with your state if you are interested in starting a Limited Liability Company.
- Owners of an LLC are called members. Most states do not restrict ownership, and so members may include individuals, corporations, other LLCs and foreign entities. There is no maximum number of members. Most states also permit "single-member" LLCs.
Register Your Business
Your location and business structure determine how you'll need to register your business. For most small businesses, registering your business is as simple as registering your business name with state and local governments.
In some cases, you don't need to register at all. If you conduct business as yourself using your legal name, you won't need to register anywhere. But remember, if you don't register your business, you could miss out on personal liability protection, legal benefits, and tax benefits.
Federal and State Tax IDs
Your Employer Identification Number (EIN) is your federal tax ID. You need it to pay federal taxes, hire employees, open a bank account, and apply for business and license permits.
It's free to apply for an EIN, and you should do it right after you register your business.
Apply for Licenses and Permits
Requirements and fees depend on your business activity and the agency issuing the license or permit. It's best to check with the issuing agency for details on the business license cost. You'll have to research your own state, county, and city regulations. Industry requirements often vary by state. Visit your state's website to find out which permits and licenses you need.
Open a Business Bank Account
As soon as you start accepting or spending money as your business, you should open a business bank account. Common business accounts include a checking account, savings account, credit card account, and a merchant services account.
Most business bank accounts offer perks that don't come with a standard personal bank account.
Staying organized while going through all of the above steps is key. Make sure to research each area carefully and how it applies to your business. Keep up with any fees or taxes associated with doing business, this includes excise and sales tax, employment taxes, income tax and estimated tax. We can help you navigate the maze of business startup requirements.