Congratulations. Your sole proprietorship has grown to the point of hiring employees. Now you need to incorporate.
Incorporating your business helps to protect you (the owner) from paying both income and business taxes. It also protects your personal assets from your business liabilities. This means that your personal assets cannot be leveraged to pay off debts incurred by your business. There are three types of incorporations - Limited Liability Company (LLC), C Corporation, and S corporation. The process of incorporating is different for each type of entity. An LLC is typically an easy set up process, with minimum fees and paperwork. A C corporation is more complex and allows you to bring in investors. An S corporation is a special tax status that allows you to pass business income (and losses) to shareholders. This article will be your guide to the incorporating process.
An LLC is one step further from a sole proprietorship. If you are the only owner of an LLC, it still operates as a sole proprietorship, but your personal assets will be protected should your business go under. You must register as an LLC with both your State Corporation Commission (SCC)(this the Secretary of State in many states), as well as the IRS. This typically a straightforward, and simple process. You will file your LLC paperwork with the state where your business is located, and pay a small fee. Then you will register with the IRS and receive an Employer Identification Number (EIN). When you operate as sole proprietorship, your social security number is used to identify your business with the IRS. As an LLC, your EIN will be used to identify your business.
A C Corporation is a step above an LLC. It will allow you to raise funding - also called “capital” - by selling shares of your company. A C corporation allows you to pass on earningings to your shareholders when your company is profitable. As a separate legal entity from yourself, it will also protect your personal assets should your business take on losses. C corporations require more detailed tax information to be filed each year. They also require you to elect a board of directors. This board will be required to meet throughout the year. Forming a C corporation is more involved than forming an LLC. It is more expensive, and requires a larger amount of paperwork. Having a large amount of partners and investors can affect your incorporating process, as well as the products and services you offer.
Forming an S corporation is the best route of incorporation if you have larger scale operations. This can include a large number of shareholders, and a large staff. An S corporation allows the board of directors to pass on business income (and losses) onto their shareholders. This protects an S corporation from paying income tax. Instead of paying an income tax, an S corporation income is passed through to its shareholders and they are taxed on the income at their tax rate Filing for an S corporation is more complex than an LLC or C corporation. It requires a special tax status to be granted by the IRS. In order to apply for S corporation tax status, your business must first be filed as an LLC or C corporation. There are certain criteria you must meet to be granted a S corporation. You must have no more than 100 shareholders, and none can be partnerships, other corporations, or non-US citizens. You can sell only one type of company stock, and it must be sold at the same price to all shareholders. You must not be registered as a bank or insurance company. Ultimately, an S corporation is the most beneficial kind of corporation for tax purposes, but most small ventures will not be granted S corporation status.
Schedule a consultation with Empire Tax Professionals today. Their knowledgeable staff of tax pros can answer your questions about the incorporation process.