If you’re considering starting a business in the United States, you’ll need to decide which business category is appropriate for your venture. Here, we’ve outlined the particulars of the most common structures for your reference.
Deciding to set up a company anywhere in the world is a big decision, and each country carries with it specific rules and regulations that are important for you to follow when you’re making a decision about which business category is best for your enterprise. After you’ve decided upon your business concept, conducted market research, written your business plan (don’t forget about our free business plan templates!), and secured funding, you’ll have important decisions to make about the status of your business category. Here, we’ll establish the differences and pros and cons of setting up as a Partnership, Limited Liability Corporation, or Corporation in the United States. If you’re interested in starting up in the UK, check out our guides. And be sure to check back for more articles on Starting up in the US, where we’ll delve more into your business’ location and how it affects you, your tax obligations, and other regulations with which you should become familiar.
Partnerships (LPs vs LLPs)
If you are not the sole proprietor of your business (another business category in itself, but one in which your business is inseparable from you as a private citizen — this includes freelancers, small family businesses, and more), you may be forming a partnership. There are two forms of partnerships in the US: Limited Partnerships (LP), and Limited Liability Partnerships (LLP). In LPs, one partner will hold unlimited liability for the company, and the other partners will hold limited liability. Generally, this is outlined in the business agreement and grants less control over the enterprise to partners with limited liability. In LLPs, all partners will hold limited liability for the enterprise’s debts and cannot be held legally or financially responsible for other partners’ actions.This business category is especially popular with skilled firms, such as those belonging to lawyers, architects, and accountants. Like LLCs, they help members avoid the double-taxation one risks with a C-Corporation, which we’ll discuss later on.
Limited Liability Companies (LLCs)
LLCs protect partners’ personal assets from liability in the event of bankruptcy or litigation. Profits and losses are not subject to corporate taxation, but members of LLCs are considered self-employed and must therefore pay self-employment taxes. Keep in mind that the individuals that comprise an LLC are called “members,” where in corporations, they are known as “shareholders.”
Depending on the state where you set up your LLC, there are potential complications. Some states require that LLCs dissolve and re-form themselves every time a partner leaves or joins the business.
Corporations
C-Corp
A corporation, or a C-corp, functions as a legal entity (much like a natural person), and can be held liable and be taxed as an individual entity. Where in LLCs and Partnerships, members pay individual income tax based on the enterprise’s profits, corporations profits are taxed to that corporation itself. Because corporations are regarded as being legal entities in themselves, they offer the greatest protection from liability to their partners in the event of bankruptcy or litigation. They are, however, more expensive to set up, and require far more vigilant record-keeping and administration.
Corporations can sell stock and therefore have “shareholders.” Shareholders elect the company’s board of directors, and the board of directors appoints the company’s Officers (President, Treasurer, etc.). Of course, if you own 100 percent of your company’s stock, this appointment will be entirely up to you. Being able to raise funds through stock sales is an important advantage, and it also makes your enterprise more visible to potential clients and employees. The “C-Corporation” moniker is the oldest and most prestigious in the US, and unlike LLCs and S-Corporations, they can deduct expenses related to entertainment, travel, and healthcare. However, keep in mind that C-Corps run the risk of being taxed twice — first on income, and then on dividends paid to shareholders on their tax returns — and the paperwork and formalities for C-Corps are the most demanding.
S-Corp
S-Corps are meant to lessen certain taxations upon the corporation — profits and certain losses can be passed through to the owner’s personal income rather than undergo corporate taxation; they are taxed more like partnerships or sole proprietorships than corporations. However, how S-Corps are taxed depends on the state they’re registered in — some states don’t recognize S-Corps privileges and tax them as C-Corps. Additionally, in order to register as an S-Corp, you’ll need to register not only with the state in which your business is based, but also with the IRS.
The S-Corp is a popular choice for startups and small businesses, since you can usually elect to revert to C-Corp status in the future without too much trouble, and it avoids the double-taxation issues that could be a burden on a new company. Unlike C-Corps, S-Corps can have a maximum number of 100 shareholders, all of whom must be United States citizens. Here, you can check if your business is eligible to register as an S corp.
B-Corp
A B-Corp, or benefit corporation, is a business that is driven both by profit and by enhancing the public good. B-Corps are similar to C-Corps in how they’re taxed, but are meant to contribute to the public benefit. Certain states oblige B-Corps to submit “benefit reports” elucidating exactly how and how much good the company has done for the public. Because they make the claim to being purpose-driven, B-Corps are held to higher standards of transparency and accountability than more traditional corporations. Outdoor Apparel giant Patagonia Inc., for example, is a registered B-Corporation — the enterprise has long been outspoken and proactive about conservation and environmental issues in the United States and elsewhere. The B-Corp moniker can increase trust and value for a company.
Note: All corporations must hold at least one annual shareholder meeting, in which minutes and resolutions are noted.
Nonprofit Corporations
Nonprofit corporations, sometimes called 501(c)(3) corporations, corresponding to their tax-exempt code from the IRS, are mission- rather than profit-driven enterprises. They contribute to the public good and can therefore be tax-exempt if they register with and are validated by the IR. They are generally subject to tight regulations on what can and cannot be done with their profits; they cannot, for example, be distributed to members, or contributed to political campaigns.
When starting a business, making the best decision for your business category is an important step towards success. If it all seems terribly complex now, check back regularly in order to find upcoming articles on the details of registering as a corporation or LLC, individual state legislation, tax obligations, starting up for foreign nationals, and common mistakes to avoid when you’re starting up in the US.