Structure backbone of business
June 11, 2007
When a business is established or expanded, the owner must consider the legal structure.
There are three main legal categories for a business structure:
A sole proprietorship is a one-person-owned business that cannot be transferred to another person. A business owner who wants the independence and flexibility to make major decisions and wishes to pay taxes at a lower rate should consider a sole proprietorship. Drawbacks with a sole proprietorship structure are that the personal assets of the owner are at risk as unlimited legal liability and management skills are limited to those of the owner.
A partnership legal structure is one in which two or more individuals agree to form a business. Like the sole proprietorship, the partnership has unlimited legal liability and taxes are paid at a lower rate. A drawback with this business structure is any partner can enter into a business transaction without consulting the other partner or partners.
There are three main corporations recognized by the state of New Mexico and the federal government: a C corporation, S corporation and limited liability corporation (LLC).
All three types of corporations are recognized as legal entities that require state registration and provide protection of personal assets of the owners. In addition, the entities may be owned by a U.S. citizen and have few ownership restrictions. The differences among the types of corporations vary, and the entity chosen should be a decision made with the help of legal and tax professionals.
A C corporation can be comprised of an unlimited number of owners (stockholders/shareholders) and can pay dividends to the shareholders. The shareholder can transfer ownership to another individual. C corporations are usually the most expensive and paper-oriented business structure. A C corporation, also referred to as a general corporation, pays taxes at the corporate tax rate, which is usually higher than the individual level. The decisions are typically made by top management.
An S corporation can have a maximum of 35 owners, and it does not pay dividends. The profits and losses are paid at the lower individual tax rate and not the corporate rate.
The owners of an S corporation and a C corporation must hold an annual meeting that must be documented. Failure to do so can result in legal issues.
A limited liability corporation can have an unlimited number of investors. The management structure is more flexible than a C corporation and is governed by an operating agreement with a choice of three tax structures.
The tax structure of a limited liability corporation can be either a sole proprietorship or partnership, which means taxes are paid at the individual tax rate. Or the limited liability corporation can be taxed as a corporation, where taxes are paid at the corporate tax rate.
With any type of business structure, it is prudent to seek the advice of a tax accountant and attorney.
Sandra Taylor-Sawyer is director of the Small Business Development Center at Clovis Community College. Call the center at 769-4136 or visit http://www.nmsbdc.org/clovis