Entrepreneurs can set up their small business as a sole proprietorship, corporation, S-corporation, partnership, a non-profit organization, Limited Liability Company, Limited Liability Partnership, and in some states a Professional Limited Liability Company/Partnership.
With so many choices available, which form of organization is best suited for your business depends on several factors, some of which are tax-related, some of which are business-related, and some of which are influenced by legal concerns.
Moreover, you may need a different form of organization at different times in the life of your business. So don’t be afraid to change your form of business if you need change.
The Big Picture
The decision about which form of business is best for you depends on a lot of factors. In this series about incorporating your business, we will everything from the tax implications of various forms of business to the other considerations you should think about. One of the more important things to consider is how your business income will be taxed over the long-term.
Hopefully, your business will be profitable. New businesses often encounter a period of time where expenses are larger than income, creating a net loss for the business. For each type of business, profits are taxed in slightly different ways and losses are handled in slightly different ways.
All of the forms of business organizations can be separated into two groups: corporations where tax is assessed at the corporate level and “pass-through entities” where tax is assessed at the shareholder level.
The phrase “pass-through entity” means that profits are not taxed to the business entity. Instead, the profits (or losses) are imputed as income (or “passed-through”) to the owners. Each owner reports his or her share of profits or losses on his or her individual tax return.
Types of Business Entities
Here’s the breakdown of the various types of organizations.
Organizations that are taxed at the corporate level:
- Limited Liability Companies taxed as corporations, and
- Non-profit organizations
Organizations that are taxed at the owner level (“Pass-through entities”):
- Sole proprietors,
- Partnerships, and
- LLC/LLP/PLLC/PLLP taxed as partnerships
Which State or States to Form a Business Entity?
Generally speaking, entrepreneurs incorporate their business in the state where they conduct their business. If you live and work in New Hampshire, for example, you would incorporate your business in New Hampshire.
If your business conducts business throughout the United States, you need to incorporate in the state where your headquarters will be. If you have a substantial business presence in another state, you may need to let that state know and file state tax returns or sales tax returns based on your business earnings in that other state.
Businesses with substantial nationwide activity sometimes choose to be incorporated in Delaware or Nevada because of the business-friendly laws in those states. Even if you incorporate in Delaware or Nevada, you will still need to register your business in those states where you have an actual business location.