Which Business Entity Is Best for My Small Business?

This entity can protect your personal assets and save you money on taxes.

It can be daunting to set up a small business. There are many decisions to make, including what type of business entity you should choose. The type of business entity you choose for your small business can have a significant impact on its success and longevity. 

Choosing the right business structure is an important decision that requires careful consideration. Each has advantages and drawbacks that must be weighed carefully to determine which best suits your needs. Let's take a look at some of the most common types of business entities and how they might work for your small business. 

Sole proprietorship

A sole proprietorship is the simplest form of business entity. It is an unincorporated business owned and operated by one individual. You own all assets and liabilities associated with the small business. There is no formal registration process or paperwork required, you simply start operating as a sole proprietor and begin selling your products or services. 

The main benefits are that you have complete control over all aspects of your business and there are relatively low startup costs. However, a sole proprietorship also carries more risk than other types of entities because you are personally liable for all debts and obligations associated with the business. It can also be difficult to raise capital from investors, and if you pass away or become incapacitated, the business ceases to exist. 

Partnership 

A partnership is similar to a sole proprietorship in that it is an unincorporated association. However, it is owned by two or more people who agree to jointly own and operate a business for profit. A partnership can be formed by a verbal agreement or written contract and must be registered with state agencies in order to obtain certain tax benefits. 

One benefit of a partnership is that profits are shared among partners according to their agreement, while another benefit is that it's easier to raise funds than with a sole proprietorship. On the downside, partners are personally liable for any debts incurred by the partnership and disputes between partners can lead to dissolution of the partnership. Partnerships also lack continuity -- if one partner leaves, dissolves, or dies, then the entire partnership may end unless another partner takes his place in accordance with their agreement. 

Corporation

A corporation is a separate legal entity that requires significant paperwork and compliance with state regulations. Corporations are owned by shareholders and managed by directors, and can protect their owners from personal liability for business debts or obligations. In many cases, corporations have advantages that make them an attractive option. Not only do they limit personal liability for the owners, but they are an ideal entity to accrue capital and attract investment.

However, choosing to operate as a corporation is a major commitment for any business. Among the drawbacks are complex taxation requirements from both the federal and state governments. C corporations face double taxation, which means the business income is taxed at the entity level and the shareholder is also taxed at their level. There are also large overhead costs associated with maintaining a corporate form, and these require more paperwork than other types of business entities.

S corporation

The other type of corporation is an S corporation. On the plus side, S corporations pay no corporate tax and thus can reduce an owner's overall tax bill. It is a pass-through entity for federal taxes and income passes through the company to be taxed at the shareholder level. They also offer limited liability protection, meaning owners can benefit from some protections against personal liability in case of a business lawsuit. 

However, on the downside, there are heavy restrictions on who may serve as shareholders, and other expensive requirements including annual meeting minutes, filing fees, and employee paperwork. In addition, there are limits on how much money one can put in or take out of their individual corporations. 

Limited liability company (LLC)

A limited liability company (LLC) is an entity created under state law that combines features from both corporations and partnerships. LLCs provide owners with limited liability protection similar to corporations but offer flexible management structures like partnerships. Additionally, LLCs provide pass-through taxation. This means profits are taxed only once at the individual owner level, instead of being taxed twice like corporations. This makes them an attractive option for smaller businesses looking for tax advantages over other entities such as corporations and partnerships. 

On the other hand, there are also some drawbacks to consider. The LLC structure requires additional paperwork and fees, making it more time consuming than other entity types such as corporations or sole proprietorships. Plus, you may be required to operate within certain restrictions in order to keep the liability protections that an LLC offers. 

The best small business entity depends on your goals and objectives for your company and its future growth potential. For example, if you're looking for limited liability protection but don't want double taxation, then an LLC may be a good option for you. Choosing the right business structure for your small business involves carefully weighing all available options. Consider factors like paying taxes, control preferences, liability protection, and ease of compliance when deciding which business entity is best for your specific situation.