(I’m not an attorney or an accountant therefore the general information in this article should not be construed as a substitute for the professional advice and services of an attorney and an accountant.)
Your business structure decision affects how much you’ll pay in taxes, the amount of paperwork your business is required to submit and keep; your personal liability; and your ability to borrow money. Since your decision will have long-term implications, you should consult with an attorney and an accountant before you select the form of ownership that is right for your business. There’s no perfect structure; all of them have advantages and disadvantages. Business formation is controlled by the Texas Secretary of State. The most common business structures are:
The sole proprietor is one of the quickest and easiest ways to set up a business structure. There aren't any blanket prerequisites, or any specific costs in starting your sole proprietorship. Once you start a sole proprietorship, you are the sole owner. You alone have full control and responsibility for your business. Melissa Morton, CPA, co-owner, Morton Accounting Services, states, “Your business taxes are your personal taxes filed with the Internal Revenue Service (IRS) on Schedule C.”
Like the sole proprietorship, starting a general partnership could be a relatively easy process. No costs or formalities are required. Whenever you put yourself on the line with any other individual, wise counsel will give you about a dozen reasons why you should have a detailed partnership agreement drafted. According to Steve Williard, JD, CPA, MBA and president, The Williard Law Firm, L.P., “When considering a partnership, you really need an attorney to help you. There are “red flag” issues to address before you decide to structure your business as a partnership. They include the following agreements: buy and sell, non-compete, confidentiality, non-solicitation, and trade secrets. Other considerations include: employees, customers, payroll tax obligations, sales permits and the balance of “sweat equity.” According to Melissa Morton, CPA, “A partnership isn’t taxed, but the partners are taxed based on their percent of ownership. They should file the IRS Schedule K-1.”
Unlike a partnership, the corporation is considered a legal structure that is separate from those individuals who created it and carry on its operations. With as little as one incorporator, a corporation can be formed by simply filling out applicable forms with the Texas Secretary of State that includes: the purpose of the corporation, names and addresses of the incorporators, amount and type of capital stock authorized to issue, and the rights and privileges of each incorporator as it pertains to each class of stock issues. The S corporation has been referred to as the logical choice for a small business owner that needs to steer clear of the corporation and its' potential pitfalls. Attorney Steve Williard advises small business owners that, “a closed corporation is the simplest business structure to form. You’re not required to have annual meetings; there’s protection from liability; the taxable income flows through the individual like a sole proprietor. Melissa Morton CPA states, “If you choose an S Corporation, you’ll use the IRS Schedule 1120S and a C Corporation will file the IRS Schedule 1120.”
Limited Liability Companies (LLC):
The LLC has the power of both a corporation and a partnership with limited personal liability for the debts and actions of the LLC. It has become a viable alternative business structure. Other features of LLCs like partnerships provide management flexibility and the benefit of pass-through taxation. In an LLC, all income is subject to social security taxes at 15.3% which breaks down to 7.65% contribution from the employee and 7.56% contribution from the owner. If the LLC is a sole proprietor, then the owner is tied to their personal taxes. If there are multiple owners, the company is treated more like a partnership and the IRS Schedule 1065 is used, and within that schedule, is the IRS Schedule K-1.
• the level of control you want;
• your need to access cash for yourself.
• the structure you are comfortable with;
• your business' vulnerability to lawsuits;
• the tax implications of each business structure;
• your expected profit (or loss) from your business;
• the need to reinvest earnings back into your business.
• Consult an attorney and accountant before making a decision on your business structure. It should be pointed out that most choices are not irrevocable. It's possible to transfer from one form to another as your business needs change.
• You can change your business structure at a later time.
• Avoid entering partnerships with people you don’t know or whose background you haven't investigated.
• Don’t assume a verbal contract with your customers will be followed. Make sure it’s in writing.
• If you have employees, don’t overlook payroll taxes.
• If you’re leasing or buying a building, have an attorney and an accountant look over the agreement or contract and tax implications.
So now, it’s time to consult an attorney and an accountant. There’s a plethora of both in the greater Houston area. , there are many in Houston albeit all over the US that either don’t know how to advise you on the legal and tax considerations for your business or are a bit unscrupulous. But how do you choose the right one for you? Your options include: word-of-mouth from friends, family and colleagues; the Harris County Bar Associations’ Lawyer Referral service; Houston Chapter of the Texas Society of Certified Public Accountants; our local universities and colleges schools of law; and of course, the highly regarded South Texas College of Law.
And a final note of information: According to the Secretary of State, on January 1, 2010, many Texas business laws will be repealed, and entities currently governed by these laws will automatically be governed by the Texas Business Organizations Code.
Next article: "Small Business Financials - cash flow, balance sheet, break-even analysis, forecasting profit and loss (P&L)"