1. Key Difference Between an LLC and a Corporation
2. An Overview of Incorporation
3. Existence as a Separate Entity
4. Limitations to Liability
5. Taxation
6. A Reduced Risk of Audit
7. Better Credibility With Your Customers

Business owners may consider incorporating LLCs to benefit from corporate tax options or other protections a corporate status can provide. When deciding which type of business strategy to use, you need to consider what each type could do for your company.

The first step is understanding the difference between an LLC and a corporation. Both structures provide significantly different taxation and company organization. Choosing the correct entity type establishes the foundation on which your business future depends; therefore, you must assess your company's long-term goals before making a decision.

Key Difference Between an LLC and a Corporation

When deciding which business entity is best for you, carefully consider the primary differences between corporations and LLCs:

  • Business Losses: In an s corporation, shareholders are allowed to report losses from the business on their personal tax returns.
  • Self-Employment Taxes: An LLC is a disregarded entity to the IRS and profits incur self-employment tax. If established as a corporation, the business is reported as a separate entity, saving you money on Social Security and Medicare taxes.
  • Restrictions on Ownership: LLCs and c corporations have no restrictions on the number of owners a company can have. An s corporation requires the number of shareholders to be 100 or fewer.
  • Seeking Investment Capital: For companies that require investment capital to continue to grow, the best option is a c corporation. C corporations can offer different classes of stock as well as offer higher dividends to their investors.

An Overview of Incorporation

The process of incorporating your business moves your business from a sole proprietorship to a formally-recognized corporate entity. Simply put, the business now functions as a separate entity from the owners. Incorporating your business can increase your company's credibility with its customers and well as protect them from liability.

Many benefits come with organizing your business, making it an important decision for any business owner. You may enjoy several of the following benefits from incorporating your business.

Existence as a Separate Entity

A corporation is separate from the owners and therefore is its own entity. This separation can help with the longevity of the company in the event that an owner leaves or in the event of their death. Additionally, since business and personal accounts and assets are separate, a business is protected in the event an owner has to declare bankruptcy.

Limitations to Liability

With incorporation, owners enjoy the benefits of limited liability. Limited liability protects the owner's personal assets from being used to settle the business debt and also protect the owner from most business lawsuits.

Taxation

One reason many business owners may be hesitant to incorporate is the double taxation to which some corporations are subject. For sole proprietorships and partnerships, all profits "pass-through" the corporation to the owners or members, who then pay taxes on the money they earn on their personal tax return. In a corporation, the business is subject to corporate tax, yet the shareholders are still required to pay taxes on the dividends they earn from the business, effectively taxing the business profits twice.

Smaller business can avoid the double taxation that certain corporations face by electing an s corporation status with the IRS. An s corporation election allows the same "pass-through" taxation as sole proprietorships and partnerships and only require the shareholders to pay taxes on their portion of the business income.

A Reduced Risk of Audit

Corporations tend to be subject to less review by the IRS, which lowers the business's risk of an audit. Since sole proprietorships have the tendency to underreport their revenue as well as over report their deductions, they are more likely to be flagged by the IRS for further review. For example, a tax filer who files a Schedule C has a 1 in 32 chance of being audited, while a non-business filer has a 1 in 124 odds of IRS review.

Better Credibility With Your Customers

Customers tend to lend more credibility to corporations than they do sole proprietorships. Incorporated businesses give a customer the impression of professionalism as well as credibility in the area and industry in which they are providing their products or services.

If you need help with incorporating an LLC, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.