Should a Small Business Incorporate or LLC: Everything You Need to Know
Should a small business incorporate or LLC? Entrepreneurs often wonder if their small business should be structured as a corporation or an LLC. 3 min read
Should a small business incorporate or LLC? Entrepreneurs often wonder if their small business should be structured as a corporation or an LLC. Both structures come with pros and cons, so it's worth considering all your options.
It's common for small business owners to launch their startup as a sole proprietorship, where the owner is essentially the same thing as their business. However, structuring the company as a limited liability company (LLC) or corporation can offer additional advantages to entrepreneurs. Perhaps the biggest benefit to using a corporation or LLC format is that it separates the business owner's personal assets from those of the company, which offers protection in case the company faces legal issues.
There is a lot of conflicting information about the benefits and disadvantages of starting a corporation or LLC. Both types of entities require paperwork to be filed with the state, and they both protect the owner from being held liable if the company runs into financial trouble. However, LLCs and corporations are different in how they are taxed and regulated.
Consider your options, especially when it comes to the differing tax requirements:
- Sole proprietorship. This is the most common option for small business owners because it is the easiest. As long as you are the only owner of the company, you don't have to do anything extra to become a sole proprietorship.
- LLC. Forming an LLC takes more paperwork than a sole proprietorship but less than a corporation. Using an LLC format protects your personal assets, like your home and savings, from any issues that could arise with the company, such as debt or legal troubles.
- Corporation. Corporations are classified as either C corps or S corps, and both types lessen your personal liability for issues with the company. A C corp requires more accounting records and legal regulations than an S corp, and they both involve more forms and filing than an LLC.
Introduction to Incorporation
Incorporating a business means moving from being a sole proprietorship to a company that is formally recognized. The business becomes its own legal entity that is separate from the business owners.
The three main options for entrepreneurs are LLCs, C corps, or S corps. All three options provide a boost of credibility with your customers, as well as protection from personal liability. Beyond that, each entity has its owns pros and cons. LLCs are not a type of corporation, so they are not incorporated. However, they do share some characteristics with corporations.
Benefits of Incorporating a Small Business
- Incorporating adds a level of protection between your business and your personal life by establishing the business as an independent entity. Corporations and LLCs both allow owners to separate their personal assets and provide more privacy for the owner. Establishing a company requires the owner establish a registered agent as the company's public contact. Some owners don't list themselves as the agent for privacy reasons or because they want to use a separate business address from their personal address.
- Incorporating also helps protect your personal assets by separating them from your business assets, which safeguards your personal life if the company faces legal issues. Corporations and LLCs both allow owners to separate their personal assets. Like the name implies, owners have limited liability for business debts in an LLC. In a corporation, personal assets are also protected with corporate formalities and regulations. If a corporation goes bankrupt, your personal finances are safe if the corporation is structured properly.
- Many small business owners incorporate because they want to take on investors and raise funds for their company. A company can only have co-owners or issue stock if it is incorporated.
- An incorporated company has more credibility. Customers will recognize the company as more legitimate if “Inc.” or “LLC” comes after the name. Likewise, vendors and partners are more likely to do business with an incorporated company because it has more legitimacy and authority. Incorporating shows a company's stability and trustworthiness. It also protects the company's name; in most states, other businesses can't use a name that is the same as a company that has already been incorporated or formed as an LLC.
- Incorporating can open the door for more contracts. Many companies will only contract with vendors that are incorporated.
- Being able to offer stock options to employees can only happen in a corporation, and it can be a valuable tool in enticing and retaining talented employees.
If you need help with deciding if you should incorporate your small business, 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.