Why You Should Incorporate Your Business

Why You Should Incorporate Your Business

If you are starting a new company, or are purchasing an existing business, one of the first decisions you will have to make is what type of business entity you want to form. A business entity establishes legal recognition for your company to provide services or goods to consumers. There are different kinds of businesses entities, including sole proprietorship, partnerships and corporations. All have their own benefits and detractors. For the purposes of this article, we will be focusing on three different types of corporations.

The Pros of Incorporation

The advantages of incorporating your business are substantial. The main and obvious benefit of incorporation is that the company becomes a legal entity in itself. You are no longer liable for any debts the company might incur. Basically, if the company is sued or fails, incorporation helps ensure that you don’t go under with it. Incorporation adds a layer of protection, for the most part, for business debts and obligations. Unlike sole proprietorship, your personal finances and those of the corporation are separate. This is called limited liability. Other advantages include:

•   Tax benefits. Depending on the type of corporation, your small business may be able to reap tax advantages to save you money without dipping into your profits.

•   Credibility. Having that “Inc.”  associated with your small business’ name conveys integrity. Clients may feel more confident that they are doing business with a reputable company.

•   Unlimited life. Corporations offer perpetual existence – meaning the business can virtually survive forever. If a major shareholder dies, ownership can be transferred in an orderly fashion. Family members and children are eligible to obtain rights to the companies of individual shareholders.

The Cons of Incorporation

As with making any decision that affects your business, it’s important to consider the cons of incorporation as well. The few downsides include:

•   Cost. There are fees associated with incorporation, which can also be viewed as an investment in protecting your business.

•   Complexities and administration.  Keeping separate personal and corporate accounting records may result in more accounting expenses. You may also be required to elect directors, hold regular shareholder and director meetings and maintain accurate records of minutes.  You may want to consider an online incorporation service provider in wading through the red tape.

•   Double taxation. Although double taxation is minimized, it still exists. Income will be taxed at the company level. If dividends are paid, it may be taxed at the shareholder level. To keep taxes to a minimum, you should educate yourself about compensation at the shareholder level.
 
As you can see there are many pros and cons to consider when thinking about incorporating a business. The safest option is to consult an attorney or an accountant before making any decisions.

Familiarizing yourself with business structure types also helps prepare you for the incorporation process. Following is a brief overview of the most popular types of business entities.

C Corporations

A C corporation is a standard corporation that is owned by shareholders. If you are looking for venture capital to finance your company, this is a great option.  Other benefits include the ability to purchase several (or many) pieces of real estate. Forming a C corporation also allows you to provide more substantial benefits to your employees, and a plan for travel and entertainment expenses. Earnings will be spread between shareholders and re-investment in the company to help it grow. C corporations, however, can have their earnings double-taxed. Once as income, and again when it is transferred to the shareholder.

S Corporations

S corporations are also standard corporations, but they are filed differently with the IRS and therefore are allowed to side-step the double-taxation that can occur with C corporations. Both S corporations and C corporations benefit from flexible salary options for their employees, but S corporations also benefit from flexible accounting options. The main difference between the two is that S corporations are restricted to 100 shareholders or less, while C corporations have no restriction. S corporations cannot be owned by other corporations, or most trusts, while again, C corporations have no restriction.

LLCs

An LLC, or limited liability company, combines the advantage of limited liability that corporations enjoy, with the pass-through taxation of S corporations. LLCs also benefit from the same flexible accounting options that S corporations get, but unlike any corporation, they don’t have to submit to the demands of yearly meetings and careful, detailed meeting documentation. LLCs have much more flexibility with business structure and management structure than corporations.

As you can see, incorporating your business could be the key to growth, success and achieving your goals. There are a number of factors to consider we’ve not addressed in this article such as individual state fees and ongoing state requirements.  It’s important to do all your research, and consider talking to a lawyer or accountant before filing any paperwork.