Which Business Structure is Right for Your Company? Part One: Corporations
Like embarking on a marriage or moving to a new city, launching a new business is one of life’s greatest and most exciting experiences. If your efforts are successful, you’ll be profiting from a line of work that you love, with the added bonus of being able to control your company’s culture, policy, and workflow. The appeal of creating a corporation, partnership, or LLC is obvious, and with job opportunities scarce in today’s struggling economy, more and more Americans are trying their hands at launching their own start-ups. According to Census data, approximately 543,000 new businesses are launched in the United States on a monthly basis. Multiply that by twelve, and you have a rough average of 6,516,000 new businesses per year.
It goes without saying that, as you begin in your path toward starting a new company, there are many questions you will have to answer. How many employees are you going to hire? Who is your company’s target audience? Will you be an exclusively digital business, or will you operate a brick-and-mortar location? All of these questions are important, and all must be answered sooner rather than later. However, there is one basic, overarching question which takes precedence over the others, because it impacts virtually every aspect of your operation, particularly where finances are concerned: which business structure is right for your company? In the first installment of this blog series, we’ll be examining the corporation.
Why Register Your Business?
No matter what type of business you are planning to launch, you will need to settle on a business structure as part of the business registration process. Whether you’re envisioning a cozy rustic cafe, an international asset management firm, or anything in between, you cannot operate without some sort of business classification.
Why? If you fail to officially register your business with the state of New Jersey or Pennsylvania, you consequently make your nascent company vulnerable to pitfalls which can be avoided through formal registration.
For example, if you do not register your business, your company’s name could be used by other companies. In the “best” case scenario, the impostor company is riding on your financial coattails; and at worst, if an outside company has malicious intent, your company’s name could be deliberately dragged through the mud and subjected to slander. With a registered name, your company gains protection against franchise encroachment.
In addition to providing your company with defensive protections, registering your business also affords you the ability to take offensive measures if the need should arise. If your business wishes to file a lawsuit for any reason, such as breach of contract or a shareholder dispute, it must be a registered entity.
Furthermore, registering your business is required because it helps both state and federal government entities for taxation purposes. If you don’t register, you cannot receive an identification number, be appropriately taxed, or apply for financial aid in the form of federal grants.
The reasons why you should register your New Jersey or Pennsylvania business with the state are plentiful. But once you’ve decided to register, you’ll need to determine which type of business classification you will legally identify your company with. In this entry, we’ll look at the differences between different types of corporations.
The word “corporation” evinces imagery of towering glass skyscrapers, multi-million dollar deals, and lush lobbies replete with sparkling fountains and lofty atrium ceilings. The very adjective “corporate” has come to mean polished, professional, slick.
But, once again, we’ve been lied to by Hollywood. In reality, the term “corporation” is actually far more inclusive. In fact, corporations can be modest operations consisting of no more than a few employees, and expensive high-rise buildings are hardly a prerequisite.
In the real world, a corporation can fall into one of two categories:
All corporations, regardless of S- or C- classification, have additional rights and liabilities which are different from those afforded to individuals. Both types of corporations come with their own pros and cons which new business owners will want to consider carefully.
C-Corps are so named for the section of the Federal Tax Code which governs their rules and regulations. If you register your business as a corporation and fail to specify the desire to register as an S-Corp, you will automatically be filed into the C-Corp classification. In order to register as either a C-Corp or an S-Corp, you will need to complete and submit a document called the Articles of Incorporation with your state.
A C-Corp is an incorporated business in which the company shareholders enjoy limited liability protection, meaning that there is a cap on the amount of business debt which the shareholders can be held personally liable for. Furthermore, C-Corps have the legal right to retain or distribute their profits as the shareholders in the company see fit. There can be any amount of shareholders in the company, ranging from one at minimum, to an unlimited maximum. For these reasons, C-Corps are attractive to some entrepreneurs.
However, C-Corps also come with drawbacks. For example, C-Corps are vulnerable to double taxation. In double taxation, C-Corp company profits are first taxed to the corporation itself; then, the profits are taxed again after they have been distributed among the business shareholders. This is only one example of the highly complicated taxation rules which apply to C-Corps, and if this is the type of structure which you are launching, you may want to consider hiring an accountant and a business attorney to ensure you are in compliance with all state and federal codes.
It should also be mentioned that if you dislike rigid structure and professional formalities, a C-Corp is probably not the right choice for you. C-Corps are legally required to periodically conduct board meetings, and to keep minutes detailing company decisions and procedures.
S-Corps share many similarities with C-Corps. Like C-Corps, S-Corps also grant shareholders limited liability protection against incurring business debt, and grant the corporation discretion in matters of profit retention and distribution.
However, unlike C-Corps, which can have thousands of shareholders, S-Corps are limited to a maximum of just 100 shareholders. These shareholders must be natural people who are citizens or residents of the United States, meaning that if your ownership group will include other entities or individuals who are located other countries, an S-Corp is probably not the appropriate business structure for your new company.
In another departure from their corporate counterpart, S-Corps are not subject to the double taxation stipulation which effects C-Corp businesses, making S-Corps preferable to C-Corps for some business owners. In matters of taxation, S-Corps are also different from C-Corps in that they are considered pass-through tax entities. This means that while S-Corps do file a federal return, the corporation itself does not pay income tax. Instead, corporate revenue (and losses) “pass through” the corporation and directly to the shareholders when it’s time to pay taxes.
If you’re still undecided, you can take heart in the fact that your decision is not necessarily permanent. Businesses which initially register as S-Corps may later convert to C-Corps, and vice versa, provided no S- or C-specific regulations are violated. (For example, if your C-Corp has more than 100 shareholders, you cannot convert to an S-Corp.)
In many cases, the “best” business type for your company’s goals and needs may not be readily apparent. The seasoned New Jersey and Pennsylvania business attorneys at Maselli Warren have decades of experience helping business owners evaluate the benefits and disadvantages of C-Corporations, S-Corporations, and other commercial structures. Call our law offices at (800) 891-2657, or contact us online.
In our next installation, we’ll be examining the partnership.