Two of the earliest decisions every company must make are whether it is time to incorporate and which business structure makes the most sense. Many businesses decide to incorporate when reaching certain milestones, like opening the doors, raising capital, or working with outside companies. After deciding to incorporate, you need to consider the right structure and the potential risks and liabilities associated with the business, tax, and governance obligations. And if you are starting the business with partners or co-founders, it is important that the ownership interests and responsibilities of each partner or founder be made clear up front. One of Legal Hero’s experienced business lawyers can advise you on these issues and make sure you get it right from the start.
Before you incorporate, you need to determine which state and company type (the most common are a C-Corp, LLC, and S-Corp) are right for you. See the additional information below for more on the benefits of incorporating and the differences between C-Corps, LLCs, and S-Corps. If you are still unsure which option makes sense for your company, your lawyer will walk you through the options and help you make the right choice. The required documents and filing fees will vary depending on what you choose, but our fixed-fee packages apply regardless of the state and company type you choose.
In the excitement of starting a new business, entrepreneurs sometimes overlook important issues that can create headaches down the road. One way to prevent problems in a multiple-founder company is to create a founders’ agreement that establishes the relationship between the founders and their roles and responsibilities in the company. For a corporation, this agreement might be referred to as a shareholders’ agreement, whereas for an LLC, it might be called an operating agreement. Regardless of what you call it, any young company with multiple founders should consider covering topics like voting rights, vesting of shares, board seats, and restrictions on the sale or transfer of stock, etc. in a founders’ agreement.
What are the benefits of incorporating?
If you haven’t incorporated your business, and you are the sole owner, the business is considered a sole proprietorship. For incorporated businesses with two or more owners, the business is considered a partnership. Whether your business is a sole proprietorship or a partnership, and regardless of the type of company you choose to form, incorporating your business can provide a number of benefits:
Protection of personal assets: by creating a separate legal entity with its own assets and liabilities, incorporation protects the personal assets of the company’s owners.
Access to capital: an incorporated company can issue stock (or membership units in the case of an LLC) to obtain capital from investors. Banks also generally prefer to do business with corporations than with unincorporated entities, so incorporation can make it easier to obtain a bank loan.
Perpetual existence: corporations can operate indefinitely, which means that, unlike sole proprietorships or partnerships, which end upon the death of their owner or owners, an incorporated business can live indefinitely.
Different tax treatment: sole proprietorships and partnerships are “pass-through” entities for tax purposes — meaning that the business itself does not pay income taxes and the profits are distributed to the owners, who pay taxes on the profits as individuals. Incorporating opens the door to other tax treatment, which makes sense for some companies.
What is a C-Corporation?
A C-Corporation, or C-Corp, is the most common type of corporation. One of the key advantages of a corporation is that it provides limited liability to its owners (the shareholders). In other words, the stockholders of the company are not personally liable for the debts of the corporation and the company’s creditors cannot look to the stockholders’ personal assets to satisfy those debts. Shareholders also cannot generally be held responsible if the corporation is accused of wrongdoing and sued. One other important features of C-Corps is that they can have an unlimited number of owners, which allows them to have a large number of investors and be publicly listed on a stock exchange.
What is an S-Corporation?
An S-Corporation, or S-Corp, is just a regular corporation that has filed a document with the IRS to be taxed as an S-Corp. Unlike a C-Corp, which is taxed at the corporate level, an S-Corp is a pass-through entity (like a sole proprietorship, partnership or LLC). This eliminates the double taxation — the corporation paying taxes on corporate profits and shareholders paying taxes on the profits when they are distributed — that occurs with C-Corps. The primary limitations of an S-Corp are that it can only have a maximum of 100 shareholders and all shareholders must be U.S. citizens or residents.
What is an LLC?
A limited liability company, or LLC, is a corporate structure that combines the limited liability of a corporation with the “pass-through” tax treatment of a sole proprietorship or partnership. One of the advantages of an LLC is that there are fewer corporate recordkeeping requirements and less paperwork than for a corporation. And for taxes, while you can elect to have your LLC taxed as a corporation, the profits or losses of the LLC will otherwise flow through to the owner or owners (known as members) who will report the profits (or deduct the losses) on their individual tax returns.
How can I decide between a corporation and an LLC?
Most companies decide to either incorporate as a C-Corp or an LLC. An experienced lawyer can help you decide which type of entity is right for you, but in general:
Companies often choose to be C-Corps when they:
have a lot of investors or plan to raise money from the public or VCs
plan to offer their employees stock options or other forms of ownership interests in the company.
Companies often choose to be LLCs when they:
do not plan to take on many investors or raise money from the public
plan to hold real estate or other assets that may increase in value over time
are looking to minimize the administrative requirements
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