Legalese with Steve Fireman: Choosing Your Entity Type

September 10, 2010 § Leave a comment

(This is the second part in our ongoing series about small business legal matters. Catch up by reading the first post here. -Evelyn)

Benjamin Franklin said “‘In this world nothing can be said to be certain, except death and taxes.” Unfortunately, the tax part holds true for businesses as well.  Hopefully, my last blog made you realize the importance of enlisting the help of legal counsel as you build your business. While I cannot make generalizations about what is best for the business you hope to open, I can equip you with information to help you consider some of the advantages and disadvantages of certain entity types. More importantly, by providing basic information, I hope I equip you ask the right questions as you try to decide how to structure your business.

Any successful small business will have to pay taxes, but the way your business income is reported and taxed will vary depending on the type of entity you’ve chosen for your business. Different entity choices include a sole proprietorship, a single-member LLC, a partnership, a multi-member LLC, an S Corporation, and a C Corporation. Each entity type is detailed below.

A sole proprietorship is the simplest type of business. It’s just you, and your business income and expenses are reported on Schedule C of your personal income tax return.

A single-member LLC is generally treated like a sole proprietorship for income tax purposes. However, you can choose to have an LLC taxed as though it were a corporation.

A partnership files an informational tax return. The income or loss of the partnership is then divided among the partners and reported on their individual tax returns.

A multi-member LLC is taxed in the same way as a partnership, unless it elects to be taxed as a corporation.

All of the above entity types are called “flow-through” entities because the income of the business “flows through” to the owners’ personal income tax returns.

A C Corporation files its own tax return and pays tax on its income. If distributions are made to shareholders, the shareholders report that income on their personal returns and pay tax on it. This may mean that a small business is taxed on its profits, and then its owners are taxed again on the portion of the profits that they take home. This double taxation is the reason that many small businesses choose not to be taxed as C corporations — though in some instances a C corporation is the best choice.

A corporation that meets certain criteria can elect to be taxed as an S Corporation. S corporations are not taxed separately from their shareholders; instead, the shareholders are taxed on their share of the S corporation’s taxable income.

So what’s best for your business? It depends on your unique situation, and there simply isn’t one rule that will work for everyone. For that reason, you should seek advice from a legal or tax professional when planning or reevaluating your business. 

Remember that ECDI staff can refer you to low or no-cost legal resources. 


Tagged: , , ,

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )


Connecting to %s

What’s this?

You are currently reading Legalese with Steve Fireman: Choosing Your Entity Type at Invest! Educate! Innovate!.


%d bloggers like this: