Summary: LLCs are the best business structure for the majority of entrepreneurs. Sole Proprietorships offer no protection whatsoever. Corporations are complex and subject to double taxation. See the details below.
Have you ever asked yourself which business structure is the best for you?
A Sole Proprietorship?
A Limited Liability Company (LLC)?
Or how about a Corporation?
What is an LLC?
An LLC is a Limited Liability Company. It is a legal entity (business structure) and it can be used to run a business, or it can be used to hold assets (such as real estate, boats or aircraft for example).
The owners of an LLC are called “members”. An LLC can be owned by one person (called a “Single-Member LLC”) or an LLC can be owned by two or more people (called a “Multi-Member LLC”).
An LLC is a business structure designed specifically to protect your personal assets from the liabilities of the business.
What is a Corporation?
A Corporation is also a legal entity (business structure) and it is most often used to run a large company with shareholders and investors (they are not ideal for owning real estate).
The owners of a Corporation are called “shareholders”. After you form a Corporation, you must elect a Board of Directors (to oversee the company) and you must elect Corporate Officers (to execute and run the day-to-day business).
Corporations are what we typically think of when we hear Microsoft, Apple, IBM, McDonalds, etc.
What is a Sole Proprietorship?
A Sole Proprietorship is when a person does not form a business entity and they operate their business as themselves.
In the eyes of the law, you ARE your business.
This is a very risky structure because if your business is sued, then you are personally responsible for all debts and liabilities.
This means that your personal assets (home, cars, bank accounts) are at risk of being used to cover those debts and liabilities.
A Sole Proprietorship offers you no protection whatsoever.
We’ll save you some time right off the bat… a Sole Proprietorship = a bad idea.
“Okay, sounds good. But which is the best for me?”
As we said, a Sole Proprietorship offers you no protection whatsoever.
A Sole Proprietorship is typically setup when someone is unaware of the options they have when it comes to setting up their business structure.
In essence – this structure is not protecting anything. Not you. And not your assets.
Maybe a Corporation would be the better option for you?
In short, Corporations are not a “bad” business entity… but they are not for everyone.
They are best suited for companies that want to go public via an IPO, an initial public offering on the stock market (again, think Google or Microsoft).
Corporations are best suited for companies that need to raise large amounts of money.
Corporations are also required to hold annual meetings, record all meeting notes, and issue shares to the stockholders.
Since most entrepreneurs just want to get their business off the ground, a Corporation is usually not the best bet as it will be too complex and costly to maintain.
An LLC is a “hybrid” between a Corporation and a Sole Proprietorship.
It harnesses the advantages of both while leaving behind their disadvantages.
Let me explain.
The disadvantage of a Corporation is what’s called “double taxation”. The Corporation must pay taxes at the federal level, and then the owners must pay taxes again on their dividends (on their personal income tax returns).
Corporations are also tedious and expensive to setup.
Again, you’ll need to create a board of directors, corporate officers, and you’ll need to issue stock to the shareholders.
The advantage of a Corporation is liability protection. The owners are protected from the debts and liabilities of the business.
The disadvantage of a Sole Proprietorship is unlimited liability. This means the owner is completely responsible for all debts and liabilities of the business.
The advantage of a Sole Proprietorship is what’s called “pass through taxation”. Sole Proprietorship income “passes through” right to the owner’s individual tax return. This means no corporate tax return and no double taxation!
Sole Proprietorships are also a lot easier to setup and they offer flexible management (you’re not required to hold meetings, elect corporate officers, or issue shares of stock).
LLCs = Best of Both Worlds
LLCs provide liability protection (your personal assets are protected against creditors) and LLCs offer pass-through taxation (avoid the dreaded double taxation).
LLCs were adopted by state law in all 50 states nearly 30 years ago to entice more small business growth.
LLCs are the most popular and the most flexible business structure for business owners, entrepreneurs and real estate investors.
Matt holds a Bachelor's Degree in business from Drexel University with a concentration in business law. He performs extensive research and analysis to convert state laws into simple instructions anyone can follow to form their LLC - all for free! Read more about Matt Horwitz and LLC University.