Choose to Incorporate for Liability Purposes. Chose the Form of Your Corporation for tax Purposes.
There are very few businesses that do not face exposure to claims from unhappy customers, vendors, or suppliers. As a business owner, it is important to protect your personal assets from claims that may be made against your business. Incorporating the business is the most effective way of getting protection from liability for claims against the business.
Incorporating your business creates a separate legal entity for liability purposes. Whether it creates a separate entity for tax purposes depends upon the form of corporation that is created. The type of corporation that a business should form is more of an accounting question than a legal question. An accountant should be consulted to be sure that you create the most tax-advantageous form for your business.
Angela Ward is an Associate and business attorney at Going and Plank. With more than 20 years of experience practicing business law, Ms. Ward is a regional expert in business formation and representation. Below, she provides some basic differences in the forms of corporations that can be created.
Which Corporation Form is Right for Your Business?
by Angela Ward
A C Corporation is formed by filing articles of incorporation with the Corporation Bureau of the Pennsylvania Department of State. It is owned by one or more individual or entity shareholders. Management of a C Corp involves three stages: shareholders, a board of directors, and officers. Shareholders vote for a board of directors who make the major business decisions. Members of the board of directors elect officers to take care of day-to-day operations.
For tax purposes, a C Corp is taxed as a separate entity which pays tax on its income. Profits are distributed as dividends to its shareholders who then pay income tax on the distribution. This is why they say that C Corps suffer double taxation. Despite this, C Corps are often chosen because the company pays a low tax rate on the first $75k in profit. C Corps also provides various tax and cost advantages for owners such as paying non-reimbursable medical expenses and disability insurance. A C Corp can be changed to an S Corp whenever the shareholders choose.
An S Corporation is also formed by filing articles of incorporation with the Department of State. It is owned by no more than 100 shareholders but cannot be owned by other corporate entities. An S Corp is managed by shareholders, directors and officers.
For tax purposes, an S Corp is a pass-through entity, meaning that it is not a separate tax entity and does not pay corporate income tax. Instead, the shareholders of a C Corp pay tax on business income on their individual tax returns at their individual tax rate. Shareholders also have the advantage of being able to offset non-business income with business losses.
LLC – Limited Liability Company
A limited liability company is formed by filing a certificate of organization with the Corporate Bureau of the Department of State. An LLC has members instead of shareholders, and members are issued certificates showing their percentage ownership instead of stock certificates. An LLC can be owned by one or more member and has a flexible management structure. An LLC can be member-managed, meaning each member has a say in all management, or the members can elect to be manager-managed, where only the persons selected as managers can have a say in the operations of the business.
For tax purposes, an LLC can be either taxed separately or taxed to the member-owners as pass-through taxation. Many LLCs are single member-owned and taxed as the individual taxation rate. however, LLC’s can and often choose to be taxed separately (by filing an S Corp tax election) in order to avoid the imposition of self-employment tax.
Each business and situation differs. If you have questions about how to form and structure your business, contact me to talk more.