Choose The Right Business Structure
Treasury “fact sheet” addresses choosing a business structure
To assist taxpayers who are starting their own business, the Treasury Department has released a fact sheet that lists the differences between the most common forms of business entities. Each business structure should be evaluated from a tax, liability and recordkeeping perspective, Treasury advises.
The Treasury's fact sheet summarizes some of the important traits of the four most commonly utilized business entities operating in the U.S. today:
-- Sole proprietorships;
-- Corporations, including Subchapter S corporations (S-corps); and
-- Limited liability companies (LLCs).
The sole proprietorship is one of the most common types of business structure entities, in part because it is easily formed. The owner of a sole proprietorship is personally liable for the debts and other obligations of the entity. Additionally, a sole proprietor must pay self-employment tax and, since taxes are not withheld, must make quarterly estimated tax payments. Generally, a sole proprietor files Form 1040, Schedule C.
A partnership is a popular "pass-through" entity organized by two or more individuals. Income, credits, deductions, profits, and losses pass through the partnership to the partners, who must report the information on their individual income tax returns (Form 1040). No tax is paid at the partnership level, although a Form 1065, U.S. Return of Partnership Income, is filed in the name of the partnership. Since no tax is withheld at the entity level, partners must make quarterly
estimated tax payments.
Limited liability companies
The LLC enjoyed a meteoric rise to popularity in the 1990s. The LLC is a creature of state law and every state, as well as the District of Columbia, has adopted statutory provisions governing the formation and operation of LLCs. The LLC is popular because, like a corporation, its members enjoy limited personal liability for the debts and other obligations of the entity, and like a partnership, it is a pass-through entity business structure.
All items of income, profits, loss, deductions, and credits pass through to individual members. In general, a LLC can have a single member or multiple members. A single member LLC is generally taxed, for federal tax purposes, as a sole proprietorship and a multi-member LLC is taxed as a partnership.
Like LLCs, the formation of a corporation is governed by state law. Generally, corporations pay tax at both the state and federal levels. A corporation files Form 1120, U.S. Corporation Income Tax Return, and pays tax at rates. Corporate earnings that are distributed to shareholders as dividends are taxed at individual rates on shareholders' individual income tax returns. However, shareholders are shielded from personal liability as liability for the debts and other obligations of the entity rest with the corporation.
A Subchapter S corporation (commonly referred to as an S-corp) is a legal entity that follows state law like a corporation and the shareholders have only limited liability. However, it is similar, in some respects, to a partnership because income passes through the S-corp to individual shareholders, who report income and other items on their individual income tax returns.
To be treated as an S-corp for federal tax purposes, a corporation must file Form 2553, Election by a Small Business Corporation. An S-corp files Form 1120S, U.S. Corporation Income Tax Return for an S Corporation. This is an information return only. The income "flows through" to each shareholder's individual income tax return.
If you'd like a more detailed explanation of the strengths and weaknesses of a particular business entity, please
contact my office.
If and only to the extent that this publication contains contributions from tax professionals who are subject to the rules of professional conduct set forth in Circular 230, as promulgated by the United States Department of the Treasury, the publisher, on behalf of those contributors, hereby states that any U.S. federal tax advice that is contained in such contributions was not intended or written to be used by any taxpayer for the purpose of avoiding penalties that may be imposed on the taxpayer by the Internal Revenue Service, and it cannot be used by any taxpayer for such purpose.
Read The Bookkeeping Basics Article
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Read The Bookkeeping Tips Article
Read The Deductible Expenses Article
Read The Economic Stimulus Payments Article
Read The Estimated Tax Payment Article
Read The Hobby Loss Rule Article
Read The Standard Mileage Rate Article
Read The Tax Relief Article
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