One of the key questions at the time of opening new company in USA is the selection of the type to form. The decision is a crucial one and goes a long way in determining the tax purposes and help the entrepreneur to plan for the future expansion of the business.
Factors determining the type of business:
Generally, the following points are considered to be the most important in the decision-making process, when starting a business or considering a business type change:
- Control of the ownership and the level of trade-off between control and profit/loss
- Cost and complexity of operation of the business including legal and retainer fees, cost of operation
- Choice of the state and the Taxes on the business which determines how the business or owner pays the taxes
- Liability of business owners as in the way they share debts of the business
Forms of Business Entities
- Sole Proprietorship
The simplest of all, this is a business venture solely owned and controlled exclusively by a single individual. This means the same person is liable for the business and is accountable for all profits and losses.
Features:
- Inexpensive to form
- Easy to dissolve
- Total control over Profit/loss
- Basic Bookkeeping is required
On the pro side, the proprietor has full control over decision making and does not have to answer to the board or other partners. Tax is fairly simple which can be handled with a Schedule C form included in owner’s personal tax return. The con means the owner has to take all the liability for any losses or legal issues.
- Partnership
As the name suggests, it includes two or more individuals who share both the risks and the benefits. To initiate it, they simply need to register with a state and create a partnership agreement to start with. Although they need to maintain some record keeping, but not as complicated as corporations.
Features:
- Relatively inexpensive to incorporate
- Taxation is a bit complex
- Each partner has joint and several liability
Partnership Options Available: Depending upon the amount of liability each partner is ready to undertake, there are two options available:
General Partnership: The basic of the both, it entails equal partnership and hence equal accountability and ownership. All decision making, profits and losses are equally shared, until specified otherwise.
Limited Liability Partnership (LLP): A limited partnership (LP) has both general partners who are involved in the daily operations of the company and the Limited partners who invest in business but don’t participate in daily operations. GPs have liability for company debts and actions, but the LPs are shielded for any such liability as long as they don’t become involved in the decision-making process.
Partnerships has to pay their taxes and report business tax liability to IRS by filing an information return. The income and loss is divided as per the agreement. Each partner gets their share of tax through Schedule K-1 form.
- Limited Liability Company
LLCs are extremely flexible and combines the features of both corporation (in order to limit personal liability) and partnership (with an ability to assess profits and losses). They can be incorporated in any state by registering article of organization with the state and creating an operating agreement.
Features:
- Flexible to operate
- Despite the fact that they provide similar protection against liabilities, they are an easier option to corporations.
One of the benefits of incorporating an LLC is the options for taxes available under different circumstances. A single member LLC can pay taxes on its personal returns through Schedule C as Sole Proprietorship whereas a multiple LLC pays like Partnership and both LLCs can elect to be taxed as Corporation.
- Business Corporation
A Corporation is a separate entity and can be formed with articles of incorporation under the state laws in which it is being incorporated.
Features:
- Expensive to form- In addition to state registration, they have to keep board of directors, maintain regular meeting and report to shareholders
- Corporation pays its own tax- owners pay taxes on dividends
- Low Corporate tax rates
- Ease of funds from investors
Professional Corporations (PCs): Specific type of corporation for licensed professionals like attorneys, doctors, accountants. Each professional can still be held liable for any wrongful professional action.
Professional Service Corporations (PSCs): Generally, they are limited to provide personal services. To get the status, the PSC has to adhere to a list of IRS requirements.
S corporations (S Corps): S Corp has the limited Liability benefit of a corporation but enjoys the taxation as a pass-through business, as partnership. It has a list of restrictions including a limit of 100 shareholders and only one class stock.
In order to incorporate S Corp, you need to fist set up a corporation in your state and then elect S Corporation status with IRS (Internal Revenue Services) within a specific period of time.
Taxes are fairly complex for S Corps as they must file a federal tax return and have separate schedules of tax due from owners. Some states also tax S Corps.
OCPBIZ helps you with the legal expertise to make the right choice if planning to open company in USA from India.