There are different ways an entrepreneur can own and operate a business. Below are general descriptions of the most common options. Depending on goals such as fundraising or desired ownership, one of the following options may be best for you.
Sole Proprietorship
Sole Proprietors are individuals that own and operate an unincorporated business by him or herself. There is no requirement to have this entity filed with the state. This option does not protect business owners as they are still personally liable for any lawsuits filed against the business. This is the default if an entity has not been formed and owners self-report profit and loss on their personal tax returns.
General Partnerships
A partnership is a relationship between two or more persons who trade or conduct business without forming an entity. This type of relationship is also not protected as the individual partners are personally liable for all lawsuits against the business. These partnerships pay no income tax. The partners self-report their share of the business’s profits and losses on their personal tax return.
C Corporations
All entity types, including corporations are formed under state law (usually in the state where the business begins operation). Corporations are treated as C Corporations by default. However, you may file to be taxed as an S corporation with pass-through taxation. A C Corp is a separate taxpaying entity and conducts business, realizes income or loss, and distributes profits to shareholders. There are no limits to the number of shareholders. This entity is “double taxed” meaning it is taxed on both corporate revenue and shareholder distributions. If the Corporation is named in a lawsuit, shareholders would not be liable. This is a great option if interested in backing your company with venture capital because institutional investors often insist on certain rights or preferences attached to equity which are not provided for by an S corporation.
S Corporations
S Corporations are in many ways similar to C Corporations. They both provide for separate personal assets and protect against personal liability. However, they have a limit of 100 shareholders and certain types of entities cannot be shareholders. They also differ in the tax structure. Shareholders of an S corporation report profit and losses on their personal tax returns and are assessed at individual income tax rates regardless of whether or not they have they received any distributions. This allows S Corporations to bypass the double taxation that C Corporations face. This type of entity could be right for you, so reach out if you have any questions.
Limited Liability Companies
In Limited Liability Companies, those who hold equity are called members, and they are governed by an Operating Agreement. There are not many restrictions on membership and no limit to the number of members. LLCs can choose how they are managed: either by members or by a manager who may or may not hold equity. This entity is disregarded by the IRS if there is only one member. If there are multiple members, LLCs are taxed by pass-through taxation.
Series LLCs
A Series LLC is an LLC that is authorized to establish series or silos which function as separate mini entities. This makes Series LLCs act like a holding companies where it may have a number of silos underneath the master. Each series provides the same protections as a normal LLC but may be more cost effective as series LLCs have reduced subsequent filing costs and annual fees. This type of entity is common with real estate portfolios where there is one individual asset per series. It is worth noting that Illinois will provide an individual EIN for each series which helps keep separate banking accounts. Delaware will not. Each series operates as a separate entity where each has its own name, bank account, and potentially different managers and members. This entity is specified in the articles of formation and requires that there are separate Operating Agreements for each series. The Master LLC and its operating agreement provides rules for the operation of all series underneath it.
