What corporation should i form

S corporations can be more cumbersome to establish and operate than an LLC since they require a board of directors and corporate officers. Also, filing guidelines and regulations are more rigid for S corporation vs. LLCs, including for the annual shareholder meetings, issuance of stock shares, and keeping meeting minutes. A business owner who wants to have the maximum amount of personal asset protection plans on seeking substantial investment from outsiders or envisions eventually becoming a publicly traded company and selling common stock will likely be best served by forming a C corporation and then making the S corporation tax election.

It is important to understand that the S corporation designation is merely a tax choice made to have your business taxed according to Subchapter S of Chapter 1 of the Internal Revenue Service Code. An S corporation might begin as some other business entity, such as a sole proprietorship or an LLC. The business then elects to become an S corporation for tax purposes. A limited liability company is easier to establish and has fewer regulatory requirements than other corporations.

LLCs allow for personal liability protection, which means creditors cannot go after the owner's personal assets. An LLC allows pass-through taxation, meaning business income or losses are recorded and taxed on the owner's personal tax return. LLCs are beneficial for sole proprietorships and partnerships.

An S corporation's structure also protects business owners' personal assets from any corporate liability and passes through income, usually in the form of dividends, to avoid double corporate and personal taxation. S corporations help companies establish credibility as a corporation since they have more oversight. S corps must have a board of directors who oversee the management of the company.

However, S corps can have shareholders and pay them dividends or cash payments from the company's profits. An LLC is better for a single-owner and likely better for a partnership. An LLC is more appropriate for business owners whose primary concern is business management flexibility. This owner wants to avoid all, but a minimum of corporate paperwork does not project a need for extensive outside investment and does not plan on taking her company public and selling the stock. In general, the smaller, simpler, and more personally managed the business is, the more appropriate the LLC structure would be for the owner.

If your business is larger and more complex, an S corporation structure would likely be more appropriate. It depends on how the business is established for tax purposes and how much profit is going to be generated. Both an LLC and S corp can be taxed at the personal income tax level. S corporation owners must be paid a salary in which they pay Social Security and Medicare taxes. However, dividend income or some of the remaining profits after the owner's salary has been paid can be passed through to the owner, but not as an employee, meaning they won't pay Social Security and Medicare taxes on those funds.

An S corporation provides limited liability protection so that personal assets cannot be taken to satisfy business debts by creditors. S corporations also can help the owner save money on corporate taxes since it allows the owner to report the income that's passed through the business to the owner to be taxed at the personal income tax rate.

If there will be multiple people involved in running the company, an S corp would be better than an LLC since there would be oversight via the board of directors. Also, members can be employees, and an S corp allows the members to receive cash dividends from company profits, which can be a great employee perk. If you're a sole proprietor, it might be best to establish an LLC since your business assets are separated from your personal assets.

You can always change the structure later or create a new company that's an S corporation. An S corporation would be better for more complex companies with many people involved since there needs to be a board of directors, a maximum of shareholders, and more regulatory requirements. LLCs are easier and less expensive to set up and simpler to maintain and remain compliant with the applicable business laws since there are less stringent operational regulations and reporting requirements.

Nonetheless, the S corporation format is preferable if the business is seeking substantial outside financing or if it will eventually issue common stock. It is, of course, possible to change the structure of a business if the nature of the business changes to require it, but doing so often might involve incurring a tax penalty of one kind or another.

Therefore, it is best if the business owner can determine the most appropriate business entity choice when first establishing the business. In addition to the basic legal requirements for various types of business entities that are generally codified at the federal level, there are variations between state laws regarding incorporation.

Therefore, it is generally considered a good idea to consult with a corporate lawyer or accountant to make an informed decision regarding what type of business entity is best suited for your specific business. Internal Revenue Service. Chronicle of Small Business.

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Business Business Essentials. Table of Contents Expand. LLC vs. S Corporation: An Overview. S Corporations. Special Considerations. S Corp FAQs. The Bottom Line. S Corporation: An Overview Choosing the right business structure is crucial to the success of your business.

Key Takeaways An LLC is a limited liability company, which is a type of legal entity that can be used when forming a business. Pros Personal liability protection No double taxation Easier to establish and operate than a corporation Flexible structure.

Cons More costly to establish than a sole proprietorship or partnership Must file an annual report, and the fee can cost hundreds of dollars Cannot attract outside investment other than banks.

Self-employment taxes can take a big bite out of your income—but you can take steps to minimize the impact. It is important as a business owner to understand the general costs of incorporating before beginning the process. Find out more about how you can incorporate. Business names often have abbreviations after them, including LLC and Inc.

Find out what these abbreviations mean and how an LLC is different from a corporation. Starting Your LLC. An LLC formation limits your personal liability and legally separates you from your business. The expenses you incur as you set up your LLC are tax deductible, though you need to know important limits, exceptions, and rules to legally deduct these costs.

Setting up an LLC is a great way for business owners to limit their liability for company debts. You don't need an LLC to start a business, but, for many businesses the benefits of an LLC far outweigh the cost and hassle of setting one up. When you form a corporation, you must take many essential steps to form a corporation properly. Choose a Business Name Choosing a business name for your corporation is an important first step when you start a corporation.

Check Availability of Name In addition to selecting a marketable name that works with your brand, you'll also need to ensure that the name is legally available. Register a DBA Name If you plan on operating your business under a different name than the corporate name you've selected, you may need to register a fictitious name also known as a "doing business as" or DBA name, an "assumed name" or a "trade name". Appoint Directors Owners typically appoint directors, and in many cases owners will appoint themselves as directorsHowever, while an owner can be a director, a director need not be an owner.

File Your Articles of Incorporation You will need to find, complete, and file articles of incorporation with your state's Secretary of State office. Write Your Corporate Bylaws Bylaws set out the rules governing how your corporation will be run. Draft a Shareholders' Agreement While optional, a shareholders' agreement is a document you'll want on hand in the event of the death or retirement of an owner, or some other event which causes an owner to need to transfer ownership of his or her shares in the corporation.

Hold Initial Board of Directors Meeting Whether your corporation has several directors or just one, an initial board of directors meeting should be held to deal with a variety of matters, including the adoption of bylaws, appointment of corporate officers and the authorization to issue stock. Issue Stock As a small corporation, you will most likely be exempt from the more onerous requirements of the Securities and Exchange Commission SEC and your state's securities regulation agency.

Obtain Business Permits and Licenses Before your corporation can be open for business, you'll need to obtain certain business permits and licenses. Open a Corporate Bank Account It's important that your corporation has a bank account that's separate from the bank accounts of its owners.

Ready to incorporate your business? Contents 5 min read Ready to incorporate your business? About the Author Belle Wong, J. Related Topics. Facebook Twitter. This portion of the site is for informational purposes only. The content is not legal advice. The statements and opinions are the expression of the author, not LegalZoom, and have not been evaluated by LegalZoom for accuracy, completeness, or changes in the law.

As companies become more complex and profitable, partnerships and proprietorships tend to be less suitable. Enter S Corporations. S corporations are a very popular entity choice for small and mid-sized privately held companies. S corporations and partnerships still file a tax return, but no income tax is owed on the return. The tax return simply shows the taxable income of the company and allocates it to the owners on a Form K Sole proprietorships do not file a business tax return at all.

Why is pass-through status such a big deal? That is not true of C corporations coming up next. If a partnership is a pass-through entity just like an S corporation, why is the S corporation structure typically preferred? The answer is FICA tax. S corporation owners are required to pay themselves a reasonable wage which is subject to FICA tax , but the remaining business profits are subject only to income tax, not FICA tax.

The chart below shows how moving from a partnership to S corporation status would save the owner approx. S corporations also generally have stricter rules than the other entity types.

For example:. On a practical note, I find many business owners struggle to understand the S corporation concept and the pass-through concept in general. It can be confusing to owe personal income tax on S corporation earnings when the owner has not received those earnings in cash.

The inverse relationship between owner wages and taxable business profits can be confusing as well. This naturally increases the associated costs, both for setup as well as ongoing maintenance. Forming first as an LLC coming up soon and electing S corporation tax status, is an option to reduce some of the administrative burden. As businesses continue to get bigger and more complex, they may outgrow the S Corporation structure.

If the number of investors exceeds the shareholder limit e. Enter the C Corporation. All large American publicly traded corporations are C corporations. It is the only entity form that works for them.

Privately-held C corporations are rare and typically have chosen the structure for reasons other than income taxes. One group of companies that utilize the C corporation structure are high-growth startups seeking series funding.

They are forced to go this route because their target investors may be entities or foreign individuals, neither of which are allowed to invest in an S corporation. It is common practice for C corporations to register in the state of Delaware.

Delaware has well-defined and court-tested corporate regulations and has become the state of choice for incorporation. C corporations are unique in that the corporation pays its own income tax. The big drawback to the C corporation structure is that stockholders of a C corporation generally must pay tax on the dividends they withdraw from the corporation.

Essentially the C corporation pays tax on its income first, and the remaining money is distributed to the owners, who pay tax on it again. This is referred to as double taxation. The double taxation of earnings is what keeps most private firms away from C corporation status. That can be a relatively big deal for certain private stockholders. There is a school of thought that suggests that despite double taxation, the C corporation structure can still be tax-efficient even for small private companies.

This strategy is geared toward companies that intend to scale quickly and plan to hold onto the business for many years without withdrawing dividends. Here is how it works. The owners structure the company as a C corporation. Because the profits are funding rapid growth, there is never a need to withdraw dividends and be subject to the second layer of tax.

The lower tax burden frees up more cash for growth in the early years. It is true that certain C corporation owners can exit their ownership position tax-free, which would be a major counter to the last point. The details to make this happen are well beyond the scope of this article, but worth noting.

In short, the idea of using the C corporation structure for tax efficiency has merit in certain unique situations. For most small to mid-businesses, though, the cons will generally outweigh the pros.

That law limits the ability of individuals to deduct state income taxes on their personal tax returns. That is a problem for pass-through business owners who are paying large amounts of state income tax on their personal returns remember pass-throughs do not pay their own income taxes. A C Corporation pays its own state taxes and is not subject to this limitation, so especially in high tax states, that structure becomes more attractive.

States are still reacting to the new law e. That is because the LLC limited liability company is a zebra in this list of horses. The owners if an LLC must choose one of the other four structures as their identity for tax purposes.

It is completely fine to organize directly as one of the four tax entities without being an LLC. Why then would anyone choose the LLC umbrella? Stated a different way, why does it seem like almost all new companies nowadays are formed as LLCs? Except in rare situations, the LLC umbrella has no effect on taxation. Any LLC must still decide whether it wants to be a C corporation, S corporation, partnership or proprietorship for tax purposes.

As we discussed at the beginning of the article, the choice of entity fundamentally boils down to a few key considerations:. From a tax standpoint, the S corporation offers a single layer of tax unlike C corporations and earnings are not subject to FICA tax unlike partnerships and proprietorships. Accordingly, most often the best choice for Point 1 is the S corporation. Sole proprietorships win 1st place for Point 2. They are by far the least complex and have the lowest cost of setup and ongoing governance and administration.

For multi-owner companies, a partnership or LLC wins out for simplicity. Finally, from a liability standpoint, the LLC structure is hard to beat. It offers liability protection along with the choice of any of the four tax entity structures. A straight S corp or C corp are considered solid from a liability perspective as well. Going back to the fictitious companies introduced at the beginning, which entity type should they choose? As a classic technology startup hoping to receive VC or PE funding, they have little option but to be a C corporation.

The only other possible consideration would be to form first as an LLC taxed as a partnership or S corporation then cut over to C status when the corporate investors become a reality.