As promised, here is the follow-up question submitted by Jon who is debating the merits of selecting an LLC or a C-Corporation or an S-Corporation, as well as wondering where to setup such an organization.
In general, I would lean to forming an LLC because it's very easy to setup, you can do it yourself, and the fees for setting it up (not counting California) are pretty inexpensive. You gain the limited liability that you need, and you get pass through accounting for profits and losses without the "double taxation" you have with a C-Corporation.
Sounds great, right? Well in most cases, it is, and this is is why you see so many businesses setup as LLCs today. My first business was an S-Corp, which offered many of the same benefits, but this was before LLCs even existed. Since then, all of my businesses have started as LLCs. As they grew, they changed to C-Corporations for reasons I'll explain below.
First off, I guess for what type of entity to setup the main issue I had originally was whether to be an S corp or LLC. It seems those 2 would be the best ways to go for my buddy as far as protecting his personal assets and the pass through taxation. LLC seems a bit more flexible than S corp, but the LLC has to pay SE taxes, where I think the S corp either doesn't (or gets to deduct them). Both LLC and S corp avoid the double taxation that a C corp would bring on, right?
LLCs vs. S-Corporations
S-Corporations are subject to many of the same record keeping and procedural requirements as C-Corporations, which is probably something you don't want to mess around with. Likewise, there are also limitations on how you share profits and losses among the shareholders. You probably don't want to mess with that, and LLCs allow you to avoid all that paperwork, and to split profits and losses however your LLC Operating Agreement dictates, regardless of actual shares held.
There are situations where you would want an S-Corp over an LLC, but those are somewhat rare and I've never seen a recent startup need to setup that way. Here again, an attorney might have good advice, but I'll say with pretty high confidence that an LLC is the way to go over an S-Corp for a startup.
Now LLC vs. C-Corporation is a different matter, and might warrant some consideration...
LLCs vs. C-Corporations
The most obvious problem with C-Corporations is that they do not offer the pass through accounting that LLCs (or S-Corps) do, meaning that the Corporation will pay tax on any profits it has, the owner will be paid with a salary just like any other employee, on which they will pay taxes, and if you make profit distributions (by means of dividends), the shareholders will be taxed on that as well. I could easily climb on my soapbox and complain how taxation of dividends is double taxation on the exact same income, and how it leads corporations to make decisions that are not in the best interest of shareholders, and how it encourages gigantic, multi-national, and anti-competitive business evolution rather than profitable, innovative, smaller entities... but THAT is for another day (and probably another blog entirely!)
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