Download our Guide to Incorporating Your Business for free. This 15-page PDF outlines your business type choices, what to expect during the incorporation process and your post-incorporation requirements.
As a business owner, you face many decisions when it comes to starting, running, and growing your business. BizFilings’ Guide to Incorporating Your Business is designed to illustrate your options and help you decide what structure your business will take. It explains the advantages and disadvantages of incorporation, what the incorporation process entails, and your post-incorporation requirements—such as filing annual statements with your state of incorporation.
The sole proprietorship is the simplest business form and not a legal entity. It is the easiest type of business to establish—no state filing or agreement with other owners is required. It is simply an enterprise owned and operated by an individual. By default, once an individual starts selling goods or services, he or she has created a sole proprietorship. A sole proprietorship is not legally separate from its owner. The law does not distinguish between the owner’s personal assets and the business’s obligations. In fact, a sole proprietor’s assets can be (and often are) used to satisfy the debts and liabilities of the business. Remember: accidents happen, and businesses end all the time. Such circumstances may quickly become a nightmare for a business owner who operates as a sole proprietor.
A general partnership is the simplest variety of
A general partnership offers owners no liability protection—partners are all liable for business debts and obligations and their personal assets can be used to satisfy those debts.
A limited partnership (LP) is owned by two classes of partners: general and limited. General Partners manage the enterprise and are personally liable for its debts. Limited partners contribute capital and share profits, but typically do not participate in management. Limited partners also incur no personal liability for partnership debts beyond their capital contributions. At least one partner must be a general partner with unlimited liability, and one must be a limited partner whose liability is limited to the amount of his or her investment. Limited partners enjoy liability protection much like a corporation’s shareholders or an LLC’s members.
An LP allows for pass-through taxation, as income is not taxed at the business level. Limited Partners can use losses to offset other passive income on their tax returns. An informational tax return is filed, but profits or losses are reported on the partners’ personal tax returns and any tax due is paid at the individual level. General partner losses can be used to shelter other income up to the value of their
To form an LP, organizers must file formation documents with their state’s business chartering agency and pay a filing fee.
Limited Partnership Disadvantages
A limited liability partnership (LLP) is
The LLP is appealing to licensed professionals, such as accountants, attorneys
To form an LLP, organizers must file formation documents with their state’s business chartering agency and pay a filing fee.
The corporation is a very common business structure. A corporation is a separate legal entity owned by its shareholders, thereby protecting owners from personal liability for corporate debts and obligations. The corporation is liable for its own debts and obligations. A corporation’s shareholders, directors, and officers must observe particular formalities in a corporation’s operation and administration. For example, management decisions must often be made by formal vote and recorded in corporate minutes. Director and shareholder meetings must be properly noticed and documented. Finally, corporations must meet annual reporting requirements and pay ongoing fees in their state of incorporation and in states where they are registered to transact business.
Taxation is a significant consideration when choosing a business entity type. For income tax purposes there are two types of corporations. A C corporation (so named because it is taxed under Subchapter C of the Internal Revenue Code) is taxed as a separate legal entity (i.e., no passthrough taxation like a partnership). A corporate income tax return is filed and taxes are paid on the corporation’s profits. If the corporation distributes profits to the shareholders in the form of dividends, shareholders pay income tax on those distributions. This creates
As with any business entity type that offers liability protection to owners, a corporation must be created at the state level. Articles of Incorporation (sometimes called a Certificate of Incorporation) in the appropriate state must be filed and filing fees paid.
C Corporation Advantages
C Corporation Disadvantages
The other type of corporation for income tax purposes is an S corporation (so called because it is taxed under Subchapter S of the Internal Revenue Code.) S corporations have passthrough taxation—thereby sidestepping the double taxation of corporate profits borne by C corporations. Income taxation is the only
S corporations file an informational tax return (much like a partnership) but pay no tax at the business entity level. Corporate profit or loss is reported on shareholders’ personal tax returns and any tax due is paid at the individual level.
You don’t really create an S corporation. You create a corporation. You do this by filing a document generally called Articles of Incorporation (sometimes called a Certificate of Incorporation) in the appropriate state and then filing Form 2553 with the IRS to elect S corporation status.
S Corporation Advantages
S Corporation Disadvantages
A nonprofit corporation is formed to pursue a matter of public concern for non-commercial purposes. Nonprofits are authorized by different statutes than standard
To pursue tax-exempt status, nonprofits must apply at the federal and state (if applicable) level—it is not automatically granted when the nonprofit is incorporated. For federal tax-exempt status, a nonprofit must file Form 1023 with the IRS. For state requirements, it is best to contact the department responsible for taxation in your state of incorporation to determine whether a separate state-level tax-exemption filing is required. Like standard for-profit corporations, nonprofits provide limited liability protection. Personal assets of directors and officers typically cannot be used to satisfy the nonprofit’s debts and liabilities.
The most common type of nonprofit is the 501(c) (3), formed in compliance with Section 501(c)(3) of the Internal Revenue Code. These nonprofits are organized and operate for a religious, educational, charitable, scientific, literary, testing for public safety, fostering of national or international amateur sports or prevention of cruelty to animals or children. Nonprofits may also be formed for other purposes. For example, business leagues, chambers of commerce, and real estate boards are formed under Section 501(c)(6), and a cooperative hospital service organization is formed under Section 501(e).
The limited liability company (LLC) is the most common form of business entity in the United States. It is a hybrid business form, combining the liability protection of a corporation with the tax treatment and ease of administration of a partnership. The LLC is a
LLCs enjoy pass-through taxation—sidestepping the double taxation of company profits borne by C corporations (although LLCs can elect with the IRS to be taxed as a corporation). Multi-owner LLCs file an informational tax return but pay no tax on company profits. The members (owners) report their share of the LLC’s profit or loss on their individual tax returns, and any tax due is paid at the individual level. Single-member LLCs report company profits on Schedule C and any tax due is also paid at the individual level.
LLCs are created by filing formation documents, typically called Articles of Organization or Certificate of Organization, at the state level and paying the required state filing fee.
Professional corporations (PCs) are specialized entities organized and operated solely by licensed professionals such as attorneys, accountants
State laws generally require PCs to maintain generous insurance policies or cash reserves to pay claims brought against the corporation. PCs are formed in a similar manner to standard corporations, by filing formation papers with the appropriate state agency and paying filing fees.
Professional limited liability companies (PLLCs) are specialized entities organized and operated solely by licensed professionals such as attorneys, accountants
State laws generally require PLLCs to maintain generous insurance policies or cash reserves to pay claims brought against the corporation. PLLCs are formed in a similar manner to standard LLCs by filing formation papers with the appropriate state agency and paying filing fees.
Deciding which structure your business will take can be complex. BizFilings’ Incorporation Wizard is an online tool that helps you evaluate business forms according to your specific business needs. As you answer business-related questions, the Wizard ranks each entity type according to how well each may suit your needs.
Business Type Comparison Table
Once a business owner has decided to incorporate a business or form an LLC, the next step is to choose a state of incorporation (also called your home state or domestic state). You are free to form your business in any state, but there are factors to consider when choosing, such as: forming in the state where the business is located versus another state, state statutes, and state taxation requirements.
Incorporating in the state where your business is located versus another state
Many business owners forming a corporation or LLC choose the state where their business is physically located. Corporations and LLCs must pay state filing fees at the time of formation, and are also subject to ongoing requirements and fees. If the company is incorporated in one state but transacts business primarily in another state, it may need to “foreign qualify in the state it’s transacting business.” Foreign qualification registers a corporation or LLC to transact business in a state other than the state of incorporation. To foreign qualify, the proper paperwork, usually called an Application for Certificate of Authority, must be completed and filed
What constitutes transacting business varies by state. Common factors are whether the company has a physical facility, employees or a bank account in that state. To learn whether your company may need to foreign qualify, talk with an attorney.
State where business is located vs. another state
Points to consider:
State statutes & taxation requirements
When evaluating states for incorporation, be sure to research each state’s corporation and LLC statutes. For example, the corporation statute is one reason why Delaware is such a common and popular choice for publicly held and other large corporations. But that same law may not be as beneficial to corporations with only one or a few shareholders (owners).
Business owners should also understand how corporations and LLCs are taxed by each state under
Why has Delaware been one of America’s most popular corporate and LLC destinations? More than 50 percent of all U.S. publicly-traded companies and 60 percent of Fortune 500 companies call Delaware home. But these same advantages may not always apply to smaller businesses. For questions on which state is best for the formation of your business, talk with an attorney or accountant.
Common advantages of forming in Delaware
While incorporating in Delaware holds potential advantages, one disadvantage is that if you operate your business in another state or states, you may need to “foreign qualify” your business in the state(s) where you are doing business. Foreign qualification is the process of registering a company to transact business in states other than its state of incorporation. When you foreign qualify your company, you must file paperwork with the states in which you’ll be transacting business and pay the necessary filing fees. You will also be subject to ongoing filings and fees (such as annual reports and/or franchise taxes) in your state of incorporation and state(s) of qualification.
To form a corporation or LLC, formation paperwork must be filed with the appropriate state agency, usually the Secretary of State, and filing fees paid. This section describes the process typically required to form a corporation or LLC in any state, as well as typical costs and time frames.
Matters of public record and publication requirements
A corporation’s formation document is typically called the Articles of Incorporation or Certificate of Incorporation, depending on the state. An LLC’s formation document is typically called the Articles of Organization or Certificate of Organization. Incorporation documents advise the state and the public of certain details concerning the company. Incorporation documents become a formal record of the corporation’s or LLC’s existence.
State corporation and LLC filing fees range widely. The typical time frame to have incorporation documents approved also varies. Standard (non-expedited) incorporation filings can take four to six weeks to be approved and returned to the business owner. Most states offer expedited filing services for an additional fee, reducing the turnaround time for filing documents to a few days or even a few hours.
Mandatory corporation & LLC disclosures
LLCs and corporations must disclose certain information in their incorporation documents. The mandatory disclosures vary slightly by state.
The desired name of the corporation or LLC must be included. For corporations, it must typically include an identifier, such as “Corporation,” “Incorporated,” “Company” or an abbreviation of those terms. For LLCs, it must typically include the term “Limited Liability Company” or “LLC.” The state holds final approval rights on the desired name to ensure it is not already on the filing office’s records as being the name of another domestic or foreign business entity or that it is not “deceptively similar” to a name already in on
A corporation’s incorporation document typically must include a brief statement of its business purpose, declaring the proposed scope of its operations. This may be required for LLCs in some states too. Business purpose clauses are either of two types, general or specific.
The person or company who initiates the company’s formation filing is the incorporator.
Most states require that the name, signature
Most states require domestic and foreign corporations, nonprofits, LLCs, LP, and LLPs to name a registered agent, which is the party that receives and forwards important legal and tax documents on behalf of the company. The registered agent must have a physical address (no P.O. boxes) in the states of
Advantages of using a registered agent service provider
Stability: The registered agent address must be kept updated with the state. If a business owner serves as the company’s registered agent and moves, he or she must file an amendment and pay necessary state filing fees to update the registered agent address on record for the company. If a registered agent provider is used, the provider will take care of that for you.
Anonymity: In states that do not mandate disclosure of the company’s legal address, the registered agent’s address is often the only address disclosed to the public, giving anonymity to company owners and managers. This is also a benefit for home-based
Reliability: Registered agent providers maintain fully staffed offices to receive documents served on them. They treat the receipt of these documents and prompt delivery to you with
Compliance assistance: Many registered agent service providers offer tools and services to help business owners keep their companies in compliance with both internal formalities and the ongoing filing and fee requirements imposed by the state of incorporation. Companies that do not meet their compliance requirements face the possibility of monetary fines, losing the limited liability protection offered to owners, and/ or administrative dissolution of the business by the state.
Disclosure information required for corporations
The information required in corporate formation documents varies from that required for LLCs.
The following disclosures are generally required:
Number of authorized shares of stock
Corporations must set forth the number of shares of stock they wish to authorize and the par value, if any, associated with those shares. A corporation need not issue the total number of authorized shares. Some opt to withhold unissued shares in order to add additional owners at a later date or to increase the ownership percentage for a current shareholder.
Share par value
Par value is the minimum stated value of a share of stock. It typically doesn’t correlate to the actual value of a share. Common par values are $0.01, $1 or no par. The actual value is fair market value, or what someone is willing to pay for a share of stock. For public companies,
If a corporation plans to authorize both common and preferred shares, this information, along with any information on voting rights, must be included in the Articles of Incorporation. Preferred shares typically provide those shareholders preferential payments of dividends or distribution of assets should the company end operations. Many small business owners choose to only authorize shares of common stock. For details on preferred shares and voting rights, talk with an attorney.
Many states require the names and addresses of the corporation’s initial directors be included in the incorporation documents. Directors are responsible for overseeing and directing corporate affairs, including making major corporate decisions. They are not responsible for the daily business activities, attended to by the officers. Directors are elected by the
Some states require names and addresses of officers to be included in the incorporation documents. Officers are responsible for the day-to-day activities of the corporation. Common officer titles include
Disclosure information required for LLCs
The following disclosures are generally required for LLCs:
LLCs must typically specify whether the company will be managed by its members (owners) or by managers. When an LLC is managed by members, owners oversee daily business operations. When managed by appointed managers, the LLC resembles a corporation, where business management is the responsibility of the directors and officers rather than the owners (shareholders).
Many states require the names and addresses of the initial member(s) or manager(s) be set forth in the formation documents.
All states allow (but not all require) the LLC to list a dissolution date in the Articles of Organization, dictating the maximum duration of an LLC’s existence. Every state allows for perpetual existence.
Common information required for nonprofits
A nonprofit corporation’s Articles of Incorporation or Certificate of Incorporation resemble for-profit Articles of Incorporation, but with a few key differences:
Requirements imposed on corporations and LLCs do not end when incorporation documents are approved by the state—they are ongoing. Owners enjoy certain benefits from corporations and
Corporations are required to undertake certain ongoing formalities in their internal governance, and while LLCs do not face the same requirements, similar steps are recommended. The importance of faithfully undertaking and properly documenting each cannot be overstated, as failing to do so can result in loss of limited liability protection for the company’s owners.
There are many tools available today, specifically geared towards small business owners, to make complying with internal formalities as easy and convenient as possible.
A corporation’s bylaws are second only to its Articles of Incorporation in importance. Bylaws outline the corporation’s internal governance rules, and address a wide range of internal policies and procedures—from establishing a corporation’s fiscal year and what corporate actions require shareholder approval, to outlining how many officers a corporation will have. Bylaws are adopted by a corporation’s directors at their organizational meeting. Another item often addressed during the organizational meeting is corporate authorization to open a bank account. Some banks require a copy of a directors’ resolution approving the bank account and assigning which officers will have signature authority on it.
Internal corporate requirements
Corporations face the strictest requirements of any business type. The following ongoing steps are required of corporations:
Internal LLC recommendations
While LLCs are not required to follow ongoing formalities, undertaking the following steps is typically recommended:
External requirements are imposed by the states on corporations and LLCs. They often include an annual or biennial state filing and payment of a corresponding state fee. Nearly all corporations and LLCs must file periodic reports with the Secretary of State’s office or its equivalent department. Annual statements are the norm—but some states have relaxed their rules and require only a biennial statement. In either case, states typically impose a fee along with the filing. The fees vary widely by state and by entity type.
The due dates for annual statements and franchise taxes vary by state. Some states connect these dates to the anniversary of the company’s incorporation (or date it registered to transact business in the state, if applicable). Others set a particular due date for all corporation annual statements and another for all LLCs. Because the periodic filing requirement and annual franchise tax can represent a significant burden and expense, business owners should research these requirements prior to incorporating.
Additional external requirements
Here are some other potential state and federally imposed requirements that may apply to your company:
Consequences of non-compliance
Small business owners often mistakenly believe that ongoing corporate and LLC requirements do not apply to them, or perhaps they feel too busy to properly satisfy these requirements. Failing to observe internal and external requirements can yield dire consequences, such as having to pay additional fees and penalties, losing corporate or LLC entity status and loss of the limited liability protection provided to the company’s owners.
If a corporation or LLC
There are also state-level consequences that can happen prior to piercing the corporate veil. When a corporation or LLC does not comply with a state’s annual or ongoing requirements, it is no longer in “good standing” with the state. Each state has different parameters for what is required before a company falls out of good standing and also how the states handle it. For example, as a first step, many states impose late fees and interest payments on the outstanding annual statement and/or franchise tax fees. Being out of good standing long enough may lead to
Piercing the corporate veil
Liability protection is not absolute. The term “piercing the corporate veil” refers to a court’s decision to sidestep liability protection normally afforded by a corporation or LLC and impose full personal liability upon the owners. A close corollary rule is the alter ego theory, which essentially says that if corporate shareholders disregard the legal separateness of the corporation, the law will also disregard the corporate or LLC form to protect individual creditors. Courts have long recognized the distinct legal status of liability-shielding entities. And courts are reluctant to disregard the corporate or LLC status—though they will pierce the corporate (or LLC) veil in appropriate circumstances.
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