A Corporation or LLC: Which is Appropriate for Your Business?
If you’re currently in business as a retailer or thinking about getting started, you’ll eventually have to determine the appropriate legal structure for tax and compliance purposes. Now, the first thing that may come to mind is the tax implications of your decision, but that’s not the only concern you should have; as your business grows, so does the need to ensure your personal assets aren’t at risk. Understanding your business and how the risks of tax fraud will affect you will help you prepare and safeguard your assets. Identity and fraud protection company LifeLock offers a comprehensive guide to help you understand how tax fraud occurs and ways to mitigate risks.
S-Corporations and Limited Liability Companies (LLCs) extend the protections you may be searching for, but which one is best for your retail business?
The SBA defines an LLC as “a business structure similar to a sole-proprietorship or a general partnership. According to the IRS, ‘It is designed to provide the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership.’ As a pass-through entity, all profits and losses pass through the business to the LLC owners (aka ‘members’).”
Setup is fairly straight-forward and inexpensive. In addition, profits are distributed at the owner’s discretion, and not based on particular percentages. However, LLCs are assessed a self-employment tax of 15.3 percent for net income if operated by a sole owner. But you always have the option of electing S-Corp taxation.
The SBA’s definition of an S-Corp is “a corporation that has received the Subchapter S designation from the IRS. A business must first be chartered as a corporation in the state where it’s headquartered then file to be considered an S-Corp. According to the IRS, S-Corporations are ‘considered by law to be a unique entity, separate and apart from those who own it.’ This allows for a limit on the financial liability for which an owner (aka ‘shareholder’) is responsible.”
Owners are compensated via salary, dividends and profits generated from the company. And in the event the profits are exorbitant, they can be distributed in the form of dividends to reduce tax liability, as the rate is significantly lower. Payroll expenses are also deductible.
Unfortunately, S-Corps are much tougher and more expensive to form. Up to 100 shareholders are allowed, which leaves you a substantial amount of room to seek investors for your retail business, but there are a variety of strict rules each shareholder must abide by, including citizenship, passive income and salary requirements.
Which structure is best?
Hopefully this guide has helped you understand the difference between LLCs and S-Corps. If you’re just starting out in your retail business, it may be best to organize as an LLC to get up and running as quickly as possible. And as your business grows and profits increase, you can elect to be as taxed as an S-Corp to soften the blow from the IRS. However, it’s important to understand that most LLCs have a limited life and must be dissolved in the event one of the members die or face bankruptcy. Finally, if you plan to go public, it’s best to begin making preparations to convert to an S-Corp or C-Corp well in advance and consult a reputable accountant for assistance.
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