Sole proprietorship, S Corp, C Corp, or LLC? Entrepreneurs all face the same question: “Which business structure should I adopt?”
Each option presents its own set of pros and cons.*
This structure is the simplest. But it creates no separation from its owner. Income from the business is simply added to the individual’s personal tax return.
Advantages: Easy to set up and simple to maintain.
Disadvantages: Owners are personally liable for the business’s financial obligations, exposing their personal assets (house, savings, etc.). It does not offer the prestige or sense of permanence of a corporation or LLC.
A corporation is a separate legal entity from its owners, making it easier to raise money, issue stock and transfer ownership. Its life is perpetual and will survive the owner’s death.
Advantages: There may be tax advantages, including more allowable business expenses. It protects owners from personal liability for the company’s financial obligations and may lend a measure of prestige and permanence.
Disadvantages: More expensive to set up, the paperwork and formality are greater than for a sole proprietorship or LLC. Income may be taxed twice, once at the corporate level and when distributed to owners as dividend income.
After forming a corporation an owner may elect an “S-Corporation Status” by adopting a resolution to that effect and submitting Form 2553 to the IRS.
The S-corporation is taxed like a sole proprietorship, i.e., the company’s income will pass through to shareholders and be reported on their respective personal tax returns.
Advantages: S-corporations avoid the double taxation issue associated with C-corporations, while enjoying many of their tax advantages. Owners are shielded from personal liability for the company’s financial obligations. It provides the prestige of a corporation for small businesses.
Disadvantages: S-corporations do not have all the tax-deductible expenses of a C-corporation. The cost of set up, the paperwork and formality are greater than for a sole proprietorship or LLC. S-corporations have certain restrictions, including a "100 or fewer" shareholders requirement. Shareholders must be U.S. citizens and the business cannot be owned by another business.
Limited Liability Company
An LLC is a hybrid between a corporation and a sole proprietorship, offering easy management, pass-through taxation, and the liability protection of a corporation. Similar to a corporation, it is a separate legal entity, but there is no stock.
Advantages: LLCs provide the protections of a corporation, but are taxed similar to a sole proprietorship.
Disadvantages: Typically more expensive to form than a sole proprietorship, LLCs require more paperwork and formalized behavior.
Remember, the choice of business structure is not an irreversible decision. You may amend your business structure to accommodate your changing needs and circumstances.
*This overview is not intended as tax or legal advice and may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding the most appropriate business structure for your organization.