The Week's Big Idea: Incorporate

The simplest incorporation option 

If you’ve been freaked out about risk for the last two days, let’s start to tackle what type of corporate structure might be right for you. Over the next three days, we’ll talk about the 3 most common incorporation statuses: LLCs, S-corporations, and C-corporations.

The simplest way to incorporate is to form a single member limited liability corporation, or LLC. 

An LLC separates your personal assets from your business assets. You get protection from losses and lawsuits. You cannot be penalized for or lose more than the amount of money you’ve put into the business.  

The paperwork with your state of incorporation is typically very straightforward — as little as one page — and the setup fees are a few hundred dollars. Your related annual expenses, including tax preparation, should be between $1,000 and $2,500.

Although it’s a good idea to have member meetings and keep minutes, LLCs do not have formal board meeting and reporting requirements. You get to write your operating agreement to suit your needs. 

Risk protection with tax flexibility

The other huge benefit of an LLC is that you can choose your tax structure, and change it over time.

If you will operate at a loss, breakeven, or small levels of profit, you can keep the company taxed as a sole proprietorship or partnership on your personal return. You continue to pay self-employment tax, but you don’t have to file a second tax return. 

As your profits grow, you have the option to switch to being taxed as an S-corporation, which will save a lot of money on taxes, without re-incorporating your company. More on the delightful benefits of S-corp tax status tomorrow.

An LLC can be a subsidiary of another company and can be owned by a non-US citizen. LLCs can have an unlimited number of members, and they can be bought and sold according to your operating agreement.
 

For downsides, you need to understand and follow the LLC operating rules, or you may give up your risk and tax benefits. (This is called "piercing the corporate veil.") If the LLC is taxed as a sole proprietorship on your personal return, you still have to pay quarterly estimated taxes and self-employment tax. In some states, your LLC may not survive your death. If you plan to take on venture capital or a lot of investors, LLCs are not a great choice because you can't issue shares.

For most businesses, an LLC is a terrific choice. You get risk protection and flexible tax benefits. 

Today's Assignment: how big do you want to be?

Have you thought about where you want your business to be in three years? Give yourself a minute to dream. Would you like to have employees? Partners? Investors or venture capitalists? Lots of physical locations with inventory? Ask yourself these important questions as you consider how to incorporate.

Coming up: S-corporations, or tax magic for profitable small businesses