Starting a business, Maui Mama? If so, you may be considering forming a business entity. Accountants will tell you that a business entity may save you $$, because you may not have to pay self-employment tax when you are an employee of your company. Attorneys may tell you that business entities are good for asset protection. Both of these statements are important and true. The other non-tax, non-legal reason to form a business entity has to do with your mindset. Without a business entity, is your business a hobby or, if you are making money, a “jobby”? Would having a business entity help you take yourself and your business, more seriously?
But what type of entity to form? The two types of entities most often discussed are S-corporations and limited liability companies. Read on for a little insight into these two different types of entities.
An S-corporation is a regular corporation that has elected to be taxed under Subchapter S of the Internal Revenue Code. An “S election” allows corporations to avoid the problem of double taxation. Typically, corporations are taxed on their income, just like individuals. The problem is that when shareholders receive dividends, those payments are also taxed. So in effect, profits are taxed twice (once at the corporate level as income and then again at the individual level as dividends). Obviously, this is a problem.
Subchapter S eliminates this and allows for what is called pass-through taxation. In other words, all the corporate income hits the shareholder’s bottom line directly and is not double taxed (i.e. there is no corporate income tax on S-corporations).
S-Corporations do have some drawbacks. First, only U.S. citizens or residents can own S-corporations. Second, individuals must own them. That means S-corporations cannot typically be part of a larger corporate structure involving holding companies or limited partnerships. One exception is that S-corporation can be owned by certain types of trusts.
Limited Liability Companies
A limited liability company (“LLC”) is a type of entity that permits you to choose how you’ll be taxed. That means you can elect to be taxed as an S-corporation (which also means you have to comply with all the rules stated above).
The benefit to an LLC, in addition to some asset protection, is that the management structure is very flexible, which simply gives you more options. LLCs avoid the rigid formalities of corporate law and allow you to structure your business in the way that best suits you.
Have you decided yet?
We’re lucky to have a robust website here in Hawaii at www.businessregistrations.com to help people start business entities.
If you need help deciding what type of business entity to use, or if you are starting a business with someone else, we can help you flush out the pros and cons of the many options you’re going to have in almost every area of your business. Give us a call today to schedule a free LIFT™ (Legal, Insurance, Finance, and Tax) Business Audit.
Image Credit: Obenauf Law Group