Are you thinking about starting your own business? One of the first steps to consider is what type of entity you should choose for your business. Here’s a list of the most common business entities along with the ‘Pros’ and ‘Cons’ of each:

Sole Proprietorship

Pros
– No formal creation process.
– Easy to operate and dissolve.
– No separate tax return.
– Easy to integrate business use of home deductions.
– No double taxation of profits.
Cons
– No liability protection.
– Self-employment tax is assessed on entire profit of the business.
– Transfer of ownership can be complex.
– Limited access to fringe benefits for owners.
Good Fit:
– Seasonal or part-time businesses.
– Businesses with little liability.
– Home based businesses.
– Businesses intended to operate for the owner’s life only.

Single Member LLC

Pros
– Simple creation process.
– Easy to operate and dissolve.
– No separate tax return.
– Easy to integrate business use of home deductions.
– Liability protection for member, except for malpractice.
– No double taxation of profits.

Cons
– Self-employment tax is assessed on entire profit of the business.
– Transfer of ownership can be complex.
– Limited access to fringe benefits for owners.
– Laws regulating LLCs vary widely among states.

Good Fit:
– Businesses with potential liability in operations.
– Businesses intended to operate for the owner’s life only.

Multimember LLC

Pros
– Limited liability for all members, except for malpractice.
– Unlimited number of members.
– Separate entity from members, allowing for greater flexibility in operations.
– Ownership is in the form of membership interest and can be transferred more easily than ownership in a single member LLC.
– No double taxation of profits.
Cons
– Requires a separate tax return.
– Laws regulating LLCs vary widely among states.
Good Fit
– Businesses requiring equity capital.
– Businesses with potential liability in operations.
– Businesses intended to exist beyond the lives of the members.
– Businesses expecting changes in ownership over time.

General Partnership

Pros
– Easy to create.
– No limit on partner number or type.
– Can be used to hold investments in other businesses and consolidate multiple lines of business.
– Flexible allocation of profit, loss, and distributions.
– Favorable tax treatment when liquidated.
– No double taxation of profits.
Cons
– Requires a separate tax return.
– Unlimited liability for all partners.
– Difficult to dissolve or change ownership without substantial planning.
– Requires tracking of basis for partners, both inside and outside the partnership.
– Individual partner’s share of income is subject to self-employment taxes.
Good Fit
– Two established businesses who wish to work as one.
– Partners wishing to consolidate multiple entities into one entity.

Limited Liability Partnership

Pros
– Liability protection for limited partners.
– Separate entity from partners.
– Ownership can be transferred within the rules of the partnership agreement.
– Limited partners’ liability is limited to their investment in the business.
– Limited partners pay self-employment tax on guaranteed payments only.
– No double taxation of profits.
Cons
– Must have one general partner with unlimited liability.
– Limited liability status for damages can be lost for a variety of administrative reasons.
– Restrictions on partners based on entity type.
– Requires a separate tax return.
– Requires tracking of basis for partners, both inside and outside the partnership.
Good Fit
– Businesses with partners not actively involved in business.
– Businesses with equity capital needs.
– Businesses with exposure to liability.

C Corporation

Pros
– No liability for non-active stockholders.
– No restrictions on ownership.
– Ownership can be transferred through the sale of stock.
– Separate entity from stockholders.
– Fringe benefits for owner-officers.
– Can have ownership interest in any other business entity.
– Perpetual existence.
– Raising capital can be achieved by issuing stock.
Cons
– Double taxation of profits.
– Complex and expensive to create and maintain.
– Require regular board of directors’ meetings and minutes.
– Requires a separate tax return.
Good Fit
– Businesses with ownership in multiple other entities.
– Businesses with significant exposure to liability.
– Businesses intended to exist eternally.

S Corporation

Pros
– Liability protection similar to that of C corporations.
– No double taxation of profits.
– Ownership is easily transferred through the sale of stock.
– Separate entity from stockholders.
– Self-employment tax is not assessed on the entire profit of the business.
– Losses can offset shareholders’ other taxable income.
Cons
– Complex and expensive to create and maintain.
– Requires a separate tax return.
– Requires regular board of directors’ meetings and minutes.
– Requires tracking of basis for stockholders.
– Ownership is limited to specific types of entities.
– Deductibility of fringe benefits for owner-employees is limited.
Good Fit
– Businesses with significant exposure to liability.

There are many events that occur throughout the year that can affect your tax situation. Call Tim Pearson & Co. today at (248) 720-0608 or schedule an appointment online by clicking here.

Tax Materials, Inc. “Business Entity Pros and Cons”. Retrieved from http://www.thetaxbook.com.