Starting a new business you should understand different business formations. They vary by state, so please go through this with a local attorney you can trust. We offer this article just for background information.
The Sole Proprietorship
It is the simplest form. If you don't create a separate legal entity for the business it is a sole proprietorship. You may operate it in your own name, or under a trade name. If don't want to use your own name, then you may register a company name as a "Fictitious Business Name," also called a DBA ("Doing Business As"). You can usually obtain this through the county government, depending on the state. The cost is within $100 in most states including a small registration fee plus a required newspaper ad.
But the sole proprietorship has its own disadvantage. It means you have personal responsibility for the business. If it fails then its creditors can go after your personal assets. Tax treatment isn't very difficult as your profit and loss goes straight through to your personal taxes. Normally your business income is on Schedule C of your tax return. Depending on where you stand with other income, this can be good or bad for your tax situation.
Partnerships
Partnerships are governed by state laws, but most states adopt a Uniform Partnership Act. The specific partnership agreement as the real legal core of the partnership is set by that act. But the legal details can vary widely. Partners get the income or loss from partnerships without any partnership tax. Besides you may determine different levels of risk in the agreements. Having general partners or limited partners allows varying levels of risk for each. Don't forget predetermine in the agreement what happens if a partner withdraws, buy and sell arrangements for partners, and liquidation arrangements if that becomes necessary.
A partnership may work for your business if you do this right. When choosing an attorney, pay attention on his/her experience in partnerships, check for references of present and past clients. This is a too complicated area and a mistake in the agreement will cause a lot of problems.
Corporations
There are two types of corporations: the standard C corporation and the small business S corporation. The C corporation is the standard form of legal entity of large companies. This type of corporations is the structure that provides the best shielding from personal liability for owners, and provides the best non-tax benefits to owners. As its owners pays its own taxes C corporation is a separate legal entity.
Family companies and smaller ownership groups usually use the S corporation. The main difference between these two types of corporations is that the S corporation's profits or losses go straight through to the S corporation's owners, without being taxed separately first. The owners of the S corporation can take their profits home without first paying the corporation's separate tax on profits. Those profits are taxed once for the S owner, and twice for the C owner. As the C corporation often wants to grow and go public, or it already is public, it doesn't send its profits home to its owners as much as the S corporation does. Most states determined owners number limitation of S corporation (25 is a common maximum). Corporations can't hold stock in S corporations, just individuals.
Corporations can transfer from one type to another and back again, but not often. Those switches are strictly regulated by the IRS and its rules for when and how they are made.
LLC (Limited Liability Company)
An LLC is a newer form of legal entity, much like as an S corporation. This is a combination of some limitation on legal liability and some favorable tax treatment for profits and transfer of assets. Be careful with this form of proprietorship as the LLC forms vary depending on different states, with advantages in some states that aren't relevant in others.
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