CCH has a good overview over the business entities available to the business owner.  Be mindful, though, that choice of entity is influenced by your state laws.  For example, the overview states that corporations are usually cheaper to form than LLCs.  This is not true in New York.

Usual price tag for forming a limited liability company in New York (City): $1300, excluding legal fees.

Usual price tag for forming a business corporation (or s corporation) in New York: $195, excluding legal fees.

**This post is for informational purposes only and does not constitute legal advice**

Learn how a young startup died an early unnecessary death due to a faulty capital structure in "A Fatal Paper Cut."

Great post, but IMHO, bad title.  Had I not found it through Ask The VC, I would have never read the post based on the title.

Don’t think you are doomed to failure, if you neglect to craft the perfect business plan.  Apparently, appearance and credibility is more important than a business plan, as reported by this research report:

"The researchers also found that whether or not an entrepreneur had created a business plan for their start-up venture had no bearing on the success of that venture. Newberg speculates that perhaps investing a lot of time creating the perfect business plan document takes time away from executing the ideas described in the document. He also suggests that entrepreneurs may become too attached to their initial conceptions or misconceptions once they are formalized by inclusion a business plan. Because things change so rapidly for an emerging venture, it is important to be flexible, Newberg explained.

**This post is for informational purposes only and does not constitute legal advice**

No, for federal income tax purposes a sole member LLC is normally considered a "disregarded entity."  Unless you hire employees, you can use your social security number for all purposes.

However, for security reasons, you may want to get Federal Tax Identification Number (also known as Employer Identification Number or Employer ID Number) in order to reduce the number of people who have access to your social security number.  In addition, it is a good idea to keep the LLC’s business strictly separate from your personal affairs in order to protect the LLC’s limited liability shield.  Having your SSN on all of your LLC’s bank accounts and other documents could give the impression that your personal affairs and your business are not separate.

You can get your Federal Tax Identification Number and more information here.

One of the main reasons for choosing an S corporation over a limited liability company is the possibility to save self-employment taxes.  Members of an LLC have to pay 15.3% self-employment tax on their share of the LLC’s income (for the first $94,200).  Shareholders of an S corporation can split the S corporation’s earnings into salary and distribution of dividends.  As a result, they only have to pay self-employment tax on the salary.  However, the IRS is on to them and has gotten more aggressive in demanding that you pay yourself a decent salary.  In other words, if you are a cosmetic surgeon in private practice, you won’t get away with declaring 30,000 as salary and 500,000 as distribution of dividends.

Talk to your accountant to get his or her opinion on your tax situation.

Stephen L. Nelson, accountant in Redmond, Washington, explains better than I ever could how you could save taxes using an S Corporation.

I get this search term a lot:  "Registering a Small Business."  People seem to think that they need to register something somewhere in order to conduct business.  Well, yes and no. 

You can start doing business under your own name by just by doing it.  You are considered a sole proprietor running a sole proprietorship.  No registration required anywhere to get that title.

But:

If you conduct business under a name different from your own name, you need to register an assumed business name (aka fictitious business name or DBA for "doing business as") with the county clerk of the county where you conduct the business.  You may have heard people say that you need to obtain a "business certificate" or "business license."  Same thing.

If you decide to establish a more formal business entity to run your business, such as a a corporation or limited liability company, you need to file ("register") certain papers with the New York Department of State in order to form such an entity in accordance with the law.  For example, to form a corporation, you need to file the corporation’s "certificate of incorporation." 

Once you formed a corporation or LLC, (in most cases) you need to obtain ("register") a federal tax identification number (aka employer identification number) in order to open a bank account in the name of your corporation or LLC.  Find out more here.

If you formed a corporation, you may want to elect a special tax status for your corporation in order to become an S corporation by filing ("registering") Form 2553 with the Internal Revenue Service.  You have to do a similar election with the New York tax authorities.

If you engage in certain business activities, you may need to apply (again, you may think of "register") for permits and licenses; for example, a liquor license for a restaurant.  To find guidance with respect to the licenses and permits you need for your New York business, check New York State’s Online Permit Assistance and Licensing website.

This is no legal requirement, but you really should register for your own domain name in order to give your business the web presence it deserves.

Finally, if you plan to develop a brand identity, you might consider protecting your business name and/or name for your product or service by "registering" a trademark.

The New Jersey Law Blog sheds light on the differences between limited liability companies, S corporations and just plain old corporations (i.e. C corporations) and the reasons why corporations are still the entity of choice in some situations.  What they have to say is just as true for New York businesses:

Several LLC limitations have resulted in the continued viability of the “S” corporation. In an “S” corporation, a shareholder-employee pays self-employment tax on money received as compensation for services, but not on profits that pass through as a shareholder. Thus an owner can still be paid a salary, and only pay additional self-employment tax on the “reasonable compensation” portion of total distributions. The entire distribution drawn by an LLC’s member-employee is treated as a “guaranteed payment” meaning all payouts are subject to self-employment tax. The second factor is that if it is expected that the business will require institutional investment, most institutional investors will require that the business be a “C” corporation (versus an LLC or “S” corporation). An “S” corporation need only “unelect” their flow-through status to be treated as a “C” corporation to raise institutional investment, while an LLC would have to undergo a cumbersome conversion process.

FYI, an S corporation is a regular corporation that elected a special tax status by filing Form 2553 with the IRS.

Al Berrios has an interesting take on the Small Business Administration and its various ways of support for small businesses.  Read his analysis here.  Also check out his many articles on entrepreneurship, organization and management on his company’s (Al Berrios & co.) website.

Divorcing from your business partners in a limited liability company can be just as nerve-racking, costly and life/business interrupting as divorcing your spouse.  What is worse, if you failed to plan for an exit strategy in an operating agreement, you could be unsuccessful and be stuck with the LLC for good.

Peter Mahler, a partner at Farrel Fritz, published an article in the New York Law Journal which reports on business divorce cases in 2006.  One of the cases mentioned in the article is Horning v. Horning Construction LLC.   

Horning had a successful construction business, but felt overwhelmed by the workload.  To ease his plight, he gave two of his employees, Klimowski and Holdsworth, a one-third interest each in a new company named Horning Construction, LLC.  Then Horning contributed the construction business to the LLC.   Even though the new LLC members tried to agree on the terms of an operating agreement, they never succeeded.  Eventually, Horning offered to sell his part of the LLC to Klimowsky and Holdsworth for, what he thought was, a fair price.
Klimowsky and Holdsworth declined.  Things got ugly and Horning wanted out, no matter what.

Horning went to court and demanded that the LLC be dissolved.

Klimowsky and Holdsworth objected  and pointed out that the LLC continued to employ
more than 40 people, that it met all of its financial obligations, and that it was fully solvent.  They claimed that it would be unnecessary and unjust to dissolve
the LLC which would place in jeopardy the livelihood of  more than
40 employees.

Guess what……the court decided that the three of them have to make it work.  No dissolution.  Horning is stuck with two business partners who can overrule him on everything.

The court stated that dissolution of an LLC in the absence of an
operating agreement can only be had, if the standard
of Section 702 of the New York Limited Liability Company Law is met, i.e., "whenever it is not reasonably practicable to
carry on the business in conformity with the articles of organization or operating agreement."

The court decided that there weren’t sufficient facts to justify a dissolution of the LLC.  In its reasoning, the court stated (emphasis added):

One certainly can sympathize with petitioner’s plight. In 2001, he had
a thriving corporation and wished to reduce his work schedule. Whether
for estate and gift tax reasons, or otherwise, he brought in two
trusted men and gave them each one-third ownership of a new venture set
up as a LLC. But he did this without prior or contemporaneous execution
of an operating agreement giving him fair exit rights in the event of
future disharmony. Moreover, during the next few years, despite having
failed to secure an operating agreement to protect him, he transferred
the business of his corporation to the LLC (something he did not have
to do if he was dissatisfied with the parties’ arrangements)
, and the
LLC grew substantially, even in relation to the corporation’s previous
level of business. Despite petitioner’s stated frustration with the
failure of the members to reach terms on an operating agreement, he was
happy to keep doing business through the LLC until he unsuccessfully
proposed a buyout to respondents in 2005, the company’s most successful
year. Only then did he seek dissolution.

 

California business attorney Nina Yablok put an incorporation service to the test and has good reasons for not recommending their services to startup businesses:  corporate services – almost a scam.  Another almost scam on new businesses in New York by web incorporation services:  Talking them into a registered agent for an annual fee.  New York does not require you to have a registered agent and there is no benefit in having one.  So don’t pay for one.

Setting up your business entity through a web service may seem cheap at first.  However, remember that it is very important to develop a relationship with a business attorney early in the life of your business.  Many business attorneys make this easy for you by offering flat fee business entity formations and initial free consultations.  Just call a couple of them and ask.  Other benefits of using an attorney for your business entity formation:

– a real person with a law degree takes responsibility for your business entity formation;

– a real person with a law degree is available to answer questions and help you decide what business entity is right for you;

– a real person with a law degree can help you draft an operating agreement or shareholder agreement.  New York requires you to have an operating agreement for your LLC, and a shareholder agreement for your corporation is a very good idea.  Web services do not usually draft these agreements for you.  If they do, you will get a "one size fits all" agreement that can be worse than not having one at all.

– a real person with a law degree will remember you and your business and remind you of follow up legal issues in running a corporation or LLC, maybe even years later.