every-year-is-selection-year-part-1A number of candidates are running on your business entity selection ballot. Initially, they often all seem equally qualified, but not all entities are created equally. So let’s consider CRI your debate moderator for entity selection candidates. We’ll walk you through the various entity types, discuss their strengths, and examine their weaknesses. These details will allow you to make an educated choice for the one that best suits your business.

Evaluate the Ballot of Business Entity Forms

One of the most important decisions you can make when starting a business is your business choice. There are several forms from which to choose from, each of which generates different legal and tax consequences. These forms are sole proprietorships, partnerships, limited liability companies, C-corporations, and S-corporations. Careful consideration is required since no option is 100% perfect for your company. The table below provides a quick synopsis of impact items by entity choice.

Characteristics Sole Proprietorship Partnership LLC C- Corporation S-Corporation
 

Owners Have Personal Liability for Business Obligations

 

 

 

Yes

 

 

Yes

 

 

No

 

 

No

 

 

No

 

Owner Characteristics

 

Owner who wants control and is okay with personal liability

 

Multiple owners who want control and are okay with personal liability

 

Owners who want pass-through tax and limited liability

 

Owners who want limited liability, share ownership, and corporate structure

 

Owners who want pass-through tax, limited liability, and formal corporate structure

 

Level of Owner Control High High Low Low Low
 

 

Income Tax Treatment

 

Company not taxed, but profits and losses pass through to owner (who is responsible).

 

Partnership not taxed on earnings, but profits and losses pass through to partners.

 

LLC not taxed on earnings (unless chosen), but profits and losses pass through to members.

 

Corporation taxed and paid on earnings; shareholder pays tax on dividend (double taxation).

 

Corporation normally not taxed on profits and losses, which pass through to shareholders.

 

 

Number of Owners

 

 

One owner

 

Unlimited number of general partners allowed. If limited partnership, unlimited general and limited partners allowed.

 

 

Unlimited number of “members” allowed

 

 

Unlimited number of shareholders

 

Up to 100 shareholders allowed

 

 

Business Impact of Owner’s (or Owners’ Death /Departure

 

Terminates

 

Terminates — unless  agreement says otherwise

 

None — unless agreement or state says otherwise

 

 

None

 

None

 

Sole Proprietorships                               

The first candidate on our business structure ballot is a sole proprietorship, which is a one-owner business that is unincorporated and has no separate legal entity from the owner.

Sole Proprietorship Advantages

  • Simplicity: Sole proprietorship is the simplest form of all business choices. No legal papers or filings–other than local filings (business license, sales tax, etc.)–are generally required to create and operate it. The business is not considered separate from the owner, so profits may be withdrawn at his/her discretion. Additionally, no separate income tax return is required the business since the income and expenses are included on the personal tax return.
  • Deductibility of Losses: Owners are generally allowed a deduction for all losses incurred in the business.

Sole Proprietorship Disadvantages

  • Personal Responsibility: Because the business is not treated as separate, the owner is personally responsible for the company’s liabilities. Without liability protection, the owner’s personal assets can be seized to satisfy business debts or legal claims.
  • Tax Issues: Business profits are taxable, regardless of whether profits are withdrawn. In addition to regular income tax, profits are also subject to additional self-employment tax (Social Security and Medicare taxes).
  • Raising Capital: Businesses may have difficulty generating additional capital since they cannot issue stock or other capital-generating investments.
  • Continuity: Since the business is not considered separate from the owner, the business does not continue upon death. Instead, at death, the business becomes part of the owner’s estate that is distributed to beneficiaries.

Make Your Vote Count

It is important to seek advice from a CRI tax professional who has an understanding of your business and goals before you cast your entity choice vote. Contact us today!