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What Entity Should You Choose? Part 1

Written by mitchmaitree on

From: asymptoticlife.com

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So you've decided to start a business. What type of entity should you choose? The answer depends on several factors, including taxes, risk, and your financial condition.

If you're starting a one-person service business, have no money in the bank, drive an old car and rent your home, the answer is easy: sole proprietorship. It's the simplest and cheapest to set up, and to get started, that's all you need.

A sole proprietorship means that you hang out your shingle and start a business: as a sole proprietor, you are the business. It's a good idea to set up a seperate checking account for the business, and you'll need to obtain any required business or professional licenses, but beyond that there are no steps to forming the entity. You're in business when you say you are.

Throughout most of this country's history, the vast majority of American businesses have been sole proprietors. They're easy to set up and maintain (because there is no set-up or maintenance). And you can stop doing business just as easily as you started.

There are disadvantages, beginning with the dreaded self employment tax: you'll pay 15.3% of your profit to the fed in addition to any fed and state income tax you may owe. And you have no protection from liability. If someone sues you, they could foreseeably tap into any personal assets you may have. But if you live in an apartment, drive a 12-year-old Taurus, and are down to your last dime, you don't have anything for a potential plaintiff to take anyway.

If you want to go into business with another person, the simplest entity is a partnership: two people open a business and share the profits. In most states, a partnership need not be registered, though you will need a federal tax ID number from the IRS before you can open a partnership bank account.

The advantage here is simplicity: as with a sole proprietorship, you're in business when you say you are. The disadvantages are likewise similar: partnership income is subject to self employment tax, and there is no protection from liability.

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