Congratulations! You’ve come up with the perfect startup idea, and you’re ready to launch your brand-new company. But should you form your entity as an LLC or a corporation? The key differences between a limited liability company (LLC) and a corporation are the way in which you’ll manage your business, how you’ll get funding and of course, how your business’s earnings will be taxed. You’ll need to choose the right type of business entity to protect yourself and keep your taxes low so you can use your profits to invest in your business – not the government.
Protect Your Stuff
Both corporations and LLCs mean liability protection for your personal assets. If your business is unable to pay its debts or gets sued, only the company’s assets will be used to make things right. You won’t risk losing your house or car – just the investment you’ve made in your business.
This is a big reason why current sole proprietors should consider forming an LLC or incorporating; without it, they could risk losing everything you own if your business goes south.
How Corporation Ownership Works
A corporation is the oldest type of business entity and has more traditional and formal requirements than an LLC. Owners are referred to as shareholders. A board of directors and officers are mandatory parts of a corporation’s management structure.
You’ll need to hold an annual shareholder’s meeting, even if you’re the only owner. You’ll also need to record meeting minutes, which detail the activities and decisions made at shareholder’s meetings. Some business owners find keeping up with these requirements too tedious and burdensome, leading them to form an LLC instead.
How LLC Ownership Works
Starting a limited liability company is an attractive option for many entrepreneurs. It’s a newer type of business structure, first introduced in 1977. Owners of an LLC are known as members, and each owns a percentage of membership interests in the company.
An LLC can be as formal or informal as you’d like. Meetings and minutes are optional – woohoo!
Differences Between LLC and Corporation Taxation
As a new business, one of your concerns when forming a business is how you’ll be taxed. Taxes take away a large portion of your company’s profits, which you’ll need to grow your business (especially in your first years).
How a Corporation is Taxed
A corporation pays federal income taxes on its income and shareholders pay income taxes on their dividends, a phenomenon known as double taxation. Most small businesses that have been incorporated elect to be taxed as an S-corp, with the same pass-through taxation as an LLC, avoiding double taxation on profits.
How an LLC is Taxed
Like a sole proprietorship, an LLC normally uses what’s called pass-through taxation. You’ll report all of your LLC’s income and losses on a Schedule C form with your 1040 tax return if you’re the sole owner. If you have business partners, you’ll each report your share of the profits and losses on your tax returns each year.
Also like a sole proprietorship, you’ll have to pay self-employment taxes on your share of your LLC’s income. Self-employment taxes can be steep – ouch! That’s gotta hurt when you so badly need that cash to help your new business grow.
Oh yes, there’s an “unless.” Thank goodness!
You can elect to have your LLC taxed as though it were an S-corp. Your LLC will need to file a corporate tax return, and you’ll get paid though your company’s payroll. These will be your wages, which will be subject to self-employment tax.
With an S-corp election, you’re not only an owner, but a shareholder, so some of your salary can come from distribution of dividends – these earnings are not subject to self-employment taxation. You could save thousands of dollars to put right back into your business.
How to Incorporate to Get Funding
If you’re planning to look for investors for your business, you’ll want to form a corporation. Most investors are looking to buy stock, not member interest in an LLC. The pass-through taxation of your LLC or S-corp makes filing taxes more complicated for investors.
If you decide not to do this, don’t fret. There are many other ways to get money for your business: crowdfunding, informal loans and bank loans. You can also convert your LLC to a C-corporation down the road if you ever decide to pitch to venture capital investors.
Ready, Set, Sell!
Once you’ve weighed the pros and cons of each type of business formation, you’ll want to get started selling products and making money right away. That’s where 360 Payments comes in. We’ll get you set up quickly with a payment processing setup that’s perfect for you so you can minimize your launch time. Give us a call at 1-855-360-0360 or drop us a line on our website. We can’t wait to help you get started!
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