Business entities are not a “one size fits all”, approach.
Are you concerned about whether you are operating under the right entity? Did you choose an entity based on what others were saying? Do you truly understand the pros/cons and impacts of operating as an LLC, Partnership, or Corporation?
Did you know that the tax code often affords businesses much flexibility and opportunities, which, if used strategically, can lead to much success? Many people, unfortunately, pay more taxes due to the type of entity they register their business as. Therefore, selecting the best business entity is one of the first strategies to proactively mitigate tax liabilities, increase tax savings, and offer liability and asset protection. Hence, the question is necessary: is your business operating under the best type of entity.
Operating under the right business entity can be crucial to success and generational wealth. However, the entity can be subjective, so you must evaluate your options from all angles with an accountant or attorney. Doing so helps to ensure that your chosen entity will be beneficial while meeting all your needs. With that said, do not aim for the right entity, instead, aim for the entity.
Thoroughly vetting each entity type and choosing (with the help of a professional) the one that will yield the most benefit for you based on your circumstance is the best.
Before choosing the best business entity, you need to know and identify several things. But first, let us define what exactly is a business entity:
A business entity is when one or more people decide to conduct a trade or business (to make a profit).
Some popular business entities include:
- Sole proprietorship
- Limited Liability Company (LLC)
- S Corporations
- C Corporations
The above entity types each have different characteristics, pros/cons, and benefits that every person must assess and determine if it fits their desired needs.
Some entities are legal entities, while others are tax entities. The legal entity is the entity the business was first established as, while the tax entity is an election requested from the IRS and sometimes the State. However, the only entity that is not a legal entity is an S-Corporation, as it is only a tax election.
Each entity should be evaluated from a tax/accounting and legal perspective and chosen based on your future rather than the present. So here are a few questions to ask yourself (and yes, make a note of your response) to begin the evaluation process.
1. Do I want to have limited liability or unlimited liability?
a) In other words, do you want to be at risk personally for any issues dealing with your business, or would you prefer to have liability protection in case of any legal matters?
2. What is your tax preference?
a) Would you prefer the business income taxes to be independent of your personal income tax return?
3. How would you like to pay yourself? (i.e., salary on payroll, owner draw, dividend)
a) Would you prefer flexibility in how you pay yourself?
4. Are you seeking to have investors?
5. Will it just be you or others as well?
6. Are you selling a product or service?
a) Do you need asset protection?
7. Where do you foresee yourself and the business in the long run?
As you keep your response to these questions in mind, ensure that you thoroughly review each entity type with a professional (I mean, really comb through it). It is always better to have your business formation done correctly from the start rather than having to make significant adjustments later. Such an adjustment could cost you more than the initial setup.
Don’t feel rushed; taking the time necessary to conduct due diligence surrounding your future needs and desires is okay before settling on a decision. This way, you can rest assured that you are strategically setting yourself up for success later.
Choosing the best business entity is not a “one size fits approach. It may take some time to make a decision, and it may even be a little frustrating, but this is why you need to have a professional by your side throughout the process. Above all, avoid choosing an entity just because your friends and family use it or because you heard someone on YouTube or Tik Tok mention it.
In conclusion, whether you have or have not set up your business, consider reevaluating where you are and where you want to be, then ask, is this the best entity for me. This decision is personal; do not feel pressured or influenced to make a choice; you need to feel comfortable and confident in your decision.
For more information on this topic, check out my youtube series surrounding the different types of business entities: The Accountant Therapist – YouTube