BRANDON FLORIDA CPA
When starting a business, one of the early and important decision you have to make is the type of entity your business will be. This decision will effect how your business and your salary are taxed, the amount of paperwork you'll have to keep up with and your personal exposure to liability.
In the eyes of the IRS, there are two types of businesses, those that are taxed directly, and those whose tax liability passes through to the owner(s).
Those taxed directly are C-Corps.
Those that are considered "pass through" or "flow through" entities include Sole Proprietorships, various Partnerships, LLCs & S-Corps.
Deciding on an entity type often begins with these tax considerations. The next consideration is often the limitation of liability. If your business becomes liable for a debt or judgement, are your personal assets at risk?
Let's take a look at each of the entity types mentioned above:
The simplest form of business is a sole proprietorship. Any income generated by a sole proprietorship is directly taxable to the owner. Any debt or liability incurred is incurred by the owner him or herself. A sole proprietor generally must make quarterly estimated tax payments to keep up with self-employment tax.
A step up from a sole proprietorship is a partnership. When two or more people contribute labor, skill, property or finances and expect to share in the profits and losses of the business, this is a partnership. Partnerships come in two varieties, general and limited. A limited partnership will limit the liability for only some partners. Both are pass-through entities. The self employment tax on these partnerships varies. Your CPA can help you with the details.
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Next is the LLC or Limited Liability Company which is a state by state structure, so check the details in your state. An owner of an LLC is called a member. Members can be people, corporations or other LLCs. An alternative to a sole proprietorship is known as a Single Member LLC.
An LLC has a choice of being disregarded by the IRS, and therefore treated like a partnership or sole proprietorship, or to be treated as an S-Corp.
An S-Corp is structured like a C-Corp whose owner(s) have chosen to allow the corporate income and losses to pass through to the shareholders. The corporation itself need not file it's own taxes, as it's shareholders are responsible for that. There may be some exception to these rules, so check with your CPA and your state's regulations.
The more formal business type is a C-Corp. When forming a C-Corp, shareholders purchase stock in the corporation with money, property or both. The corporation earns income and pays it's own taxes and distributes profits to it's shareholders. The corporation is a separate taxable entity. Because the corporation is taxed on the income and shareholders are taxed on distributions, there is a double tax. The shareholders of a corporation are generally not liable for the debts or liabilities of the corporation, with possible exceptions under some state laws.
It's impossible to say that one of these entity types is better than the others. Different situations will favor one entity over another. Talk to your CPA about your short and long term goals and let her guide you into the best fit for your business.