New Business: Some Considerations for Entity Selection

When starting a new business several considerations need to be taken into account when deciding what business entity, if any, you should form. Every business has it's own unique circumstances. However, there are two major benefits that can come with forming a business entity. First, entities formed pursuant to a state statute give owners the benefit of limited liability protection.  Second, there is also a potential for tax savings coming in the form of a reduction of self employment taxes. 

First off, if you are going into business with other people, you absolutely need to form some sort of entity. No matter how long you've known your partners, you should always formalize your business relationships in writing. Do not open a business with anyone without getting your agreement down in writing. 

Next, If you are planning to have your business either make or owe money at some point, you will likely want to form a business entity.  If your business is making money, then it will have taxable income. This means you will need to have a discussion regarding how you want your business taxed. For example, for some businesses, there is a great chance of tax savings by electing corporate taxation under Subchapter S.  However, Subchapter S taxation is available whether you opt for a Corporation or a Limited Liability Company (LLC). Therefore, taxation should generally not be the deciding factor when choosing an entity. 

Further, if you plan on your business taking on any debt or having vendors that will need to be paid, you will want to have liability protection.  Absent a personal guarantee, the liability protection that comes with business entities will result in the business entity, and not you individually, being responsible for payment of debts.  The limited liability benefit can be achieved with both a Corporation and an LLC.

Additionally, you will need to think about funding and how that will be structured. For example, if you have a great business idea but, sadly, your have no money to execute it, you will need funding to come from somewhere. You can get a loan and fund your business with debt. Alternatively, you could find investors and give those investors equity in the business in exchange for capital contributions. You will need to come to an agreement regarding how much control these investors will have over your business. 

Finally, you want to think about how your business will be managed. This can often boil down to whether you have partners and how formalized you want your relationship with those partners to be. As mentioned above, you will want have a written agreement that lays out the rights and responsibilities of each Partner, Member, or Shareholder. (For a bit more detail on this, see my post about why you need all of your business agreements in writing.) 

If you are thinking about starting a new business, contact a qualified attorney to schedule a consultation to get you started on the right path to reach your business goals.