The BizFilings blog covering business tips and trends.
Corporation or LLC?
Published on Apr 1, 2010
Read 'Corporation or LLC?' at 'Time to Start Up,' the small business blog by BizFilings.
Perhaps the most common advice a new small business owner hears is to incorporate. There are advantages as well as complications. But even if you decide to go ahead with incorporation, that's only the first of many choices you'll need to make. The next step is deciding whether to form a corporation or LLC.
The two are similar in many ways. Both are legally a bit like individuals. It's as if you've given birth – suddenly there's this new entity with rights of its own. Like that new baby, the new entity is NOT equivalent to you, and you'll get yourself in hot water if you pretend otherwise. Even if you are the only employee, writing a check for Billy's braces out of the company account is just like writing it out of your next door neighbor's checkbook.
So long as you are in compliance with state law, both types offer full limited liability to all of the owners of the business in every state. But neither a corporation nor an LLC will protect you in the event of your own malpractice or malfeasance. In both cases, you'll want business insurance to protect yourself.
Neither will take on your own personal debts—nice try—but in most states and industries, both will protect your personal assets in cases such as legal malfeasance by an employee.
So if they're similar in all those ways, how are they different? Most of it comes down to the way they're treated at tax time.
An LLC is a pass-through type of business. Profits and losses of the organization go straight through to the owners. Business income equals personal income, so the owner pays the tax on his or her personal return, and it's taxed at the individual rate.
Corporations are separate businesses entities with profits and losses taxable to themselves, not to the owners. As a result, corporations are taxed at the corporate rate.
LLCs are generally simpler in structure and in reporting requirements, but in some circumstances, proprietors can earn a substantially increased tax bill through the addition of the self-employment tax, currently at a painful 15.3 percent.
In some situations, corporations can bring their own tax headaches. As mentioned above, the corporation is taxed on its profits, but the owner is also taxed on any dividends and salary from the company. It's a double tax, and it can seriously cut into the real dollars earned in the end.
This is the beginning, not the end, of a branching tree of decisions. Your attorney or tax accountant can help you find the right path to making your entrepreneurial dream a reality.
See additonal info in our Learning center on both:
Starting an LLC
Starting a corporation