Define Your Type of Business

Before acquiring any of the licenses or tax ID numbers, you’ll need to determine the type of business structure you will be using. By business structure, we mean a recognizable entity that is recognized by your State and the Federal Government. There are several classifications, each with it’s own set of advantages and disadvantages. Be sure to check which types can operate legally within your State:

• Sole Proprietorship - This is a business where one person furnishes all the capital and assumes all the responsibility and liability. If you have the skills and capital necessary to operate your business, then this form of business organization should be considered very carefully.
• Partnership - In a partnership, the liability of each general partner for all the debts of the firm is unlimited, just as it is in a sole proprietorship. This generally means that each of the general partners is personally responsible for all the debts of the firm. This amount could very easily be in excess of the amount they have invested in the business. A partnership, like a sole proprietorship, lacks continuity. This means that the business terminates upon the death of the owner or partner, or upon the withdrawal of a partner. In some special situations, a limited partnership should be considered.
• Corporation - In a corporation, the liability of the owners is limited to the amount they pay for their shares of stock. A corporation is a legal entity, and its continuity is unaffected by death or the transfer of shares of stock by any or all owners. 
  
  One disadvantage of most corporations is double taxation; income tax is levied upon corporate profits and, in addition, upon dividends after they are paid to the stockholders. 
  
  However, there is a certain type of corporation, known as an "S” corporation, in which profits are passed through to the individual stockholders, much the same way as in a partnership, with the result that there is no federal income tax to the corporation as an entity. There are many differences between C corporations and “S” corporations. There is also a taxation arrangement known as a QSSS. One arrangement may be more advantageous for you than the other, so please discuss them with your financial advisor.
  
  • “C” Corporation - A “C” corporation is not actually a business structure, but the "tax status" of the company. All corporations are “C” corporations unless they opt to take advantage of a provision in both federal and state tax laws to become “S” corporations. Taxes on profits of a “C” corporation are paid both by the corporation itself and by the shareholders when the profits are received as dividends. However, shareholders cannot deduct any losses posted by the “C” corporation.
  • “S” Corporation – In an “S” corporation," the profits are passed through to the individual stockholders, much the same way as in a partnership, with the result that there is no federal income tax to the corporation as an entity.
  • QSSS Corporation - The Small Business Job Protection Act of 1996 changed the federal tax treatment of “S” corporations. Under the new law, an “S” corporation will be permitted to own a Qualified Subchapter S Subsidiary (QSSS) and effectively treat the subsidiary as if it were a division. The assets, liabilities, and items of income, deduction, and credit would flow through to the parent retaining the same character.
    
• Limited Liability Company (LLC) - A type of company, authorized only in certain states, whose owners and managers receive the limited liability and (usually) tax benefits of an S Corporation without having to conform to the S corporation restrictions. Typically an LLC will be governed by an "operating agreement." The operating agreement or other written agreement may set forth details relating to membership, including relative rights, powers, and duties (e.g., voting). It may also provide that the LLC is headed by a manager and may even provide for classes or groups of members in the manner established in the operating agreement.

Note: Some States have variations of each of these types of business (i.e. Limited Liability Partnerships, Limited Partnerships, Cooperations, as well as Not for Profit classifications). Please consult the regulations for doing business with your State of residence, or in the State in which you plan to incorporate.