Deciding the Best Legal Structure for your Business

Deciding the legal structure of your business is an important choice and is one with complex consequences. This is a decision, in which you will want to involve your hired advisors. There are several different legal structures that one may assume, and we will go over some of the basics differences here.

Many small businesses fall under the category of Sole Proprietorships, in which one and only one owner runs and operates the business. Legally, the business is intricately connected to the owner in financial ways. The sole proprietorship is the simplest form to assume when running a business, since the paperwork is minimal and during tax time, the business’ profits and losses can be easily transferred to a personal income tax return.

Partnerships are another business structure and are also fairly simple, but instead of only one owner/operator, there are two individuals who are both fully responsible for the operations of the business. Keep in mind that partnerships can become problematic if there is ever a disagreement regarding the logistics or operations of the company. Hence, enter into partnerships very, very carefully.

Another form of a business structure is the Corporation. This is somewhat more complicated than the sole proprietorship and partnership. When forming a corporation, one must file Articles of Incorporation and assign formal positions to a Board of Directors. Many small businesses choose not to file a corporation due to the complex nature of the paperwork involved. On the other hand, corporations do have one huge benefit: they keep the financials of the business separate from that of the owners. In other words, corporations provide significant protection to the business owners’ personal assets. When discussing the legal form of your business with your attorney, be sure to ask about the S-Corporation, which has many of the same advantages of the Corporation and may be appropriate for your situation.

Limited Liability Corporations (LLC’s) are just that: corporations that offer limited liability to the business owners. For this very reason, LLC’s can be a very attractive option for business owners who are hesitant to put their personal assets on the line for their business. Forming an LLC, although not as paperwork-intensive as the Corporation, still requires more documentation than a sole proprietorship.

For the purpose of reporting business income to the IRS, you will need to obtain a Taxpayer Identification Number. Depending upon the legal business structure you choose and a few other factors, such as whether you will have employees, you may be able to use your own Social Security Number to identify your business. However, in the case of Corporations and LLCs’s, and any business with employees, you will not be able to use your Social Security Number. In these cases, you will need to obtain a Business Taxpayer ID Number. Fill out the relevant form on the IRS website (www.irs.gov) and/or the website of the Local Tax Authority of your state.