So, you’ve worked on your crowdfunding and you’ve registered a trademark. What’s next? Well, ideally you’d have decided on this before, but every entrepreneur needs to decide what kind of entity he/she best fits the business structure. Now, there are different kinds of entities: sole proprietorships, LLCs, LLPs, S-corporations, C-corporations, and LPs. This alphabet soup of entities each stands for a different type of organization that changes the liability, and tax benefits or burdens that can be available. What is there to choose from? What are the benefits and burdens with each choice? How would someone choose which entity to form?
What kinds of entities are there to choose from?
Entities are best divided up into three major groups: (i) sole proprietorships; (ii) partnerships; and (iii) corporations. The major differences tend to be in terms of liability and how they are taxed. Sole proprietorships and partnerships tend to be taxed to the individual, with liability being imposed on those individuals who are directly responsible for the business operations. However, this can be changed in part through types of partnerships like LPs, LLP, and LLLPs. These are “Limited Partnerships,” “Limited Liability Partnerships,” and “Limited Liability Limited Partnerships.” These partnerships are formed according to state law, with LLLPs currently not allowed under California law, but if formed in another state, they must be registered with the California Secretary of State prior to doing business in the state. Among the three, they generally function by having general and limited partners. In Limited Partnerships, there are at least two general partners with unlimited liability, and a limited partner who is only liable for what he/she had put into the company. Limited Liability Partnerships are similar, but unlike a general partnership, or a limited partnership, one would be isolated from the wrongdoings of their partners. LLCs can be used as a sort of partnership, as well, but can elect to be taxed as a corporation instead, with a tax through the company, and then to the owners.
Then, there are the corporate forms, generally split between C-corporations and S-corporations. C-corporations are those corporations that are generally thought about as “corporations” that yield multiple shareholders and it is the default structure when forming a corporation. Comparatively, S-corporations, are taxed more like partnerships, but come with a limit of 100 shareholders, all of whom have to be U.S. citizens or resident aliens.
How would you decide which entity to form?
First, some entities, like LLPs, in California, are limited to certain business types. LLPs, for example, would be limited to law, accounting, and architecture firms, while LLCs could not be used by lawyers or doctors. In addition, depending on how much funding your new venture might need, certain forms, like corporations, which can sell shares, would be more appropriate than sole proprietorships. Furthermore, depending on your partners in the new venture, limited liability may be more appropriate or desirable than a general partnership. These entities involve different tax rates, with partnerships generally splitting taxes between the individual share of profit, or deduction of losses. Ultimately, it’s important to decide the type of tax burden that works for your business venture, which entities can be formed in the state you want to do business in, and how much liability can be avoided.
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