Choosing a Business Structure & Business Name

September 16, 2019
Posted in: Uncategorized

 

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When you have a product or service that you’re eager to present to the world (or at least to your target market), the logistical details can detract from your enthusiasm. Before you can officially “hang out your shingle”, there are so many important decisions to make. A less-committed entrepreneur might throw in the towel before really getting started. But that’s not you. You’re reading this article because you’re determined to see your idea through.

This article will cover two of the important decisions you’ll need to make before opening for business:  (1) choosing a business structure and, (2) choosing a business name. Liability and tax concerns will factor into your choice of business structure. What’s in a (business) name? As you’ll see, a lot more than you thought. 

 

 

The 5 Types of Business Structures

Before deciding on one of the five options below, keep this in mind: the business structure you choose will influence everything from day-to-day operations, to taxes, to the level of risk concerning your personal assets. The ideal structure for your business will provide the right balance of legal protection and benefits.

 

 

 

Sole Proprietorship

The sole proprietorship is the simplest and most straightforward business structure. It’s an ideal option for businesses owned by one person. If you’ll use a business name other than your legal name, registering a sole proprietorship generally involves completing a “doing business as” (DBA) form with your local governing authority (county clerk’s office or Secretary of State in most states). During registration, a check will be performed to ensure that your “assumed” name isn’t already in use by another business. You’re automatically considered to be a sole proprietorship if you don’t register as any other business entity.

 

 

 

Tax Considerations

As a sole proprietor, you report your business’s income and expenses when filing your personal income tax return (Form 1040). This is accomplished by completing and attaching Schedule C – Profit or Loss from Business to your return. Should Schedule C’s bottom line indicate a loss, the amount of the loss can offset other income reported on your return. As a sole proprietor, Schedule SE – Self Employment Tax must also be completed to calculate how much self-employment tax you owe. This schedule is also filed with your Form 1040.

If your annual net earnings is $400 or more, you must make quarterly estimated tax payments to cover your tax liability. These equal payments are made on the 15th of April, June, September, and January. The amount of the quarterly payments depends on the adjusted gross income (AGI) on your personal tax return. If the prior year’s AGI is less than $150,000, the estimated tax payments must be at least 90 percent of the current year’s tax liability or 100 percent of the prior year’s liability, whichever is less.

 

 

Advantages

  • Easy to register the business with local authorities. Generally involves completing a DBA form if using an assumed name.
  • Your business earnings are only taxed once. 

 

 

 

Disadvantages

  • You’re personally liable for your company’s debts. If you’re unable to meet loan obligations or a lawsuit is filed against you, your personal assets could be seized to satisfy these claims.
  • It’s difficult for a sole proprietorship to raise money because you can’t sell stock. Banks and other funding sources are hesitant to extend business loans to sole proprietors causing them to rely on their own savings, home equity loans, or family loans.

If you plan to operate a low-risk business, a sole proprietorship may be a sound option. This option also provides a way to test your business idea in a simpler format before establishing a more complex business structure.

 

 

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Partnership

If your business will be owned and operated by two or more persons, consider structuring it as a partnership. There are two types of partnerships:  general and limited.

In a general partnership, all partners actively operate the business and equally assume responsibility for its debts and obligations. Each general partner can take out loans and make decisions that will affect all partners (if the partnership agreement allows).

A limited partnership can have both general and limited partners. The general partners own and operate the business and assume responsibility for all obligations but the limited partners act as investors only; they don’t make decisions concerning the business and aren’t liable for any of the business’s obligations. Because of the required filings associated with limited partnerships, general partnerships are much easier to form.

 

 

The Partnership Agreement

It’s nice to have someone to share in the planning and operation of a business as well as the legal and financial responsibilities.  A general partnership provides that but what happens if there is dissension among the partners? A written partnership agreement will protect your interest in the business should that occur. It’s a way of “laying all cards on the table” at the outset of establishing your business.

Here’s what the agreement should address:

  • The nature of each partner’s investment – Are all partners investing cash in equal amounts? Is one investing more labor in lieu of cash? Will any of the partners contribute equipment to the business?
  • Additional financial contributions Will partners be required to invest more money should the business need capital in the future?
  • Each partner’s role in the business What role will each partner play in the day-to-day operations of the business? Be specific.
  • Outside partnership interests – Can the partners have interests outside of the partnership? Can the interest be in competing businesses?
  • Using interest as collateralCan a partner use his or her interest in the business to secure a personal loan?
  • Partner withdrawal – If a partner wants to withdraw from the business, how will that be handled? This is usually handled with a buyout agreement which includes a non-compete clause.
  • Restriction of partnership interest transfers – Can a partner transfer his or her interest? Transfers are sometimes restricted so that remaining partners don’t have to be in business with someone they have an objection to.
  • Handling of disabled partners If a partner becomes disabled will he/she still share in the profits? For how long? What happens to the share of a partner who dies?
  • Conflict resolution – If there’s dissension among the partners, how will it be resolved? An arbitrator is often used to resolve disputes.

 

 

Tax Considerations

A partnership doesn’t pay tax on its income but instead “passes through” any profits or losses to the individual partners. When filing their personal tax returns, each partner completes and attaches Schedule K-1 – Partner’s Share of Income, Deductions, Credits, etc. which discloses the partner’s share of partnership income, deductions and tax credits.

 

 

Advantages

  • The partnership itself isn’t taxed; instead, income is “passed through” to the partners who can report income as well as losses on their personal tax returns.
  • Partners can combine resources and share financial responsibility.

 

 

Disadvantages

  • Similar to a sole proprietorship, general partners are personally liable for the company’s debts and obligations.
  • Each partner is also liable for any debts incurred as a result of other partners’ actions (unless partnership agreement states otherwise).
  • Because of the extensive legal and accounting services needed, partnerships are more expensive to establish than sole proprietorships.

 

 

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Corporation

The corporate business structure is more complex to initiate than most other structures. Since a corporation is an entity that’s separate from its owners, there are more regulations and tax requirements to comply with and the paperwork involved can be daunting.

 

 

How to Form a Corporation

Once you’ve decided on a corporate name (which must include the word “Incorporated,” “Corporation,” “Company,”  “Limited,” or an abbreviation of one of these words), contact the Secretary of State or the agency that’s responsible for registering corporations in your state. Ask for instructions, necessary forms and fee information.

Interpreting your state’s incorporation laws can be challenging for a layperson so this is best left to an attorney. If you feel confident that you can accomplish this without an attorney, there are books and software to help with the process. You’ll save on the attorney’s fee but the downside is that you could misinterpret one or more details in your state’s incorporation laws.

If you decide to forge ahead on your own, the next step is to prepare and file articles of incorporation. The articles must include the corporate name, purpose, names and addresses of the parties incorporating, the location of the corporation’s principal office, and the number of shares the corporation is authorized to issue. The filing fee is typically based on the number of authorized shares. Depending on your state, the articles may be filed online or by mail.

The person who signs the articles of incorporation must appoint the initial corporate directors who will serve on the board until the first annual meeting of shareholders (when the next term’s board members are elected). At this first board meeting, in addition to appointing corporate officers, the directors will generally select a corporate bank, authorize issuance of shares of stock, and set the corporation’s fiscal year.

Your state may require you to appoint a registered agent. This individual or company agrees to accept legal papers on your corporation’s behalf. The registered agent must have a physical street address in the same state as your corporation.

To establish the corporation’s operating rules, an internal document called bylaws should be adopted. Bylaws aren’t filed with the state and you’re not legally required to have them but they serve the purpose of (1) detailing responsibilities of the shareholders, directors and officers, (2) stating the intended frequency of stockholder meetings, and (3) helping show banks, creditors, the IRS, and others that your corporation is a legitimate entity.

Once your articles of incorporation are accepted, your state agency will send you a certificate of incorporation.  It’s important that you follow the rules of incorporation required by state law which includes filing annual reports and holding annual meetings. If not, a court can dismantle your corporation and hold you and the other owners (shareholders) personally liable for the business’s debts.

It’s also important that you keep accurate financial records that show a distinction between the income and expenses of the corporation and that of the owners (shareholders). The corporation’s important papers such as minutes of shareholder meetings and stock certificates should be kept at the corporation’s principal office.

 

 

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Tax Considerations

Not only is the income of a corporation taxed at federal and state levels, but any dividends distributed to shareholders are taxed at individual tax rates on each shareholder’s personal income tax return.  To avoid paying tax on corporate income, it can be distributed to shareholders as salaries. Corporations aren’t required to pay tax on reasonable compensation (within IRS limits). The amount paid as salaries can be deducted on the corporation’s P&L statement as a business expense.

 

 

Advantages

  • A corporation’s debt is not that of its owners (shareholders). Shareholders’ personal assets aren’t at risk.
  • A corporation can raise money by selling stock.
  • Some of the profits of a corporation can be retained without the shareholders paying tax on them.
  • Corporations continue indefinitely, even if one of the shareholders dies, sells shares, or becomes disabled.

 

 

Disadvantages

  • Corporations are formed under the laws of each state and must follow more complex rules and regulations than sole proprietorships and partnerships.  You’ll likely require the guidance of an attorney to interpret these laws. Accounting and tax preparation for a corporation is more involved and therefore more expensive.
  • Double taxation – see Tax Considerations.

 

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S Corporation

For business owners who want the liability protection of a standard (or C) corporation without the double taxation, an S corporation is the way to go.

 

 

Tax Considerations

With an S corporation, there’s only one level of federal tax to pay because the corporation’s income and losses are passed through to shareholders and included on their individual tax returns.

 

 

Advantages

  • Same liability protection as a standard corporation
  • Owners of S corporations who don’t have inventory can use the cash method of accounting, which is simpler than the accrual method.
  • Corporation’s income is only taxed once.

 

 

Disadvantages

  • S corporations are subject to many of the same rules and regulations as standard corporations which will likely result in higher legal, accounting, and tax preparation costs.
  • S corporations must also file articles of incorporation, hold shareholders meetings, keep corporate minutes, and allow shareholders to vote on major corporate decisions.
  • S corporations can only issue common stock and this stock can only be owned by individuals, estates, certain types of trusts, and qualified pension plans.

 

 

Limited Liability Company

A limited liability company (LLC) is a business structure that combines the best features of a partnership with the best features of a corporation. Similar to an S corporation, owners of an LLC enjoy the liability protection of a standard corporation without the double taxation.

Unlike an S corporation, there’s no limit on the number of shareholders an LLC can have. In addition, all owners of the LLC are allowed to fully participate in operating the business.

Similar to partnerships, LLC’s don’t continue indefinitely. Some state statutes mandate that the LLC must dissolve after 30 or 40 years. If an owner withdraws, retires, or dies, the LLC dissolves.

To form an LLC, articles of organization must be filed with the secretary of state where the LLC is located. Some states also require that an operating agreement (similar to a partnership agreement) be filed.

 

Tax Considerations

With an LLC, there’s only one level of federal tax to pay because the LLC’s income and losses are passed through to the owners and included on their personal tax returns.

 

Advantages

  • Limited liability – owners aren’t held liable for the company’s debts so personal assets aren’t at risk.
  • The LLC’s income is only taxed once.
  • An LLC member can be an individual, partnership or corporation and all members have a percentage of ownership.
  • Profits and losses don’t have to be apportioned based on the LLC member’s investment amount. In an S corporation, profits and losses are apportioned based on shares held.

 

Disadvantages

  • Since LLC’s don’t issue stock it can be difficult to raise money without having stock to offer to investors.
  • Unlike with a standard corporation, LLC’s can’t use stock options as incentives for employees.
  • LLC’s must file paperwork similar to that of partnerships which can be challenging for some business owners.

 

 

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Choosing a Business Name

If you’ve decided on a business structure, it’s time to give your brand new venture a name. Naming your business may seem like an easy task — just pick something that sounds good and run with it. Contrary to what some entrepreneurs think, it’s not that simple. Choosing a business name requires thought and intention.

 

 

What’s a Great Business Name?

The business name that you choose can have an impact on your success. The wrong name won’t resonate with your customers and could hinder your marketing and branding efforts.

Here are some qualities you’ll find in a great business name:

 

It’s Consistent with your Branding

The name is consistent with how you’re positioning your business in the marketplace. A name like Saks Fifth Avenue lets customers know they can expect a high-end shopping experience.

 

It’s Not Similar to Competitors

The name you choose for your business should not be confusingly similar to another business. If you choose a name that’s close to a competitor, not only will you confuse customers but you could be viewed as a copycat.

 

It’s Simple

Shorter names (no more than four syllables) are easier to remember. Avoid using hyphens or special characters in the name.

 

It’s Easy to Spell

Hard-to-spell names can confuse potential customers and make it difficult for them to find your business online. Save yourself from having to constantly correct misspellings of your business name.

 

 

It Can Grow With Your Business

A name like Bed Bath & Beyond conveys to potential customers that the retailer offers more than linens and accessories for the bedroom and bathroom. They could add an infinite number of home décor categories and the name still works. Pick a name for your business that doesn’t limit you to a specific product or area.  “Cupcakes of Atlanta” won’t fit if the business adds cookies and expands into other cities. 

 

There’s Meaning Behind It

Names that convey something meaningful and positive have a lot of appeal. Take internet radio station Pandora’s business name. In Greek mythology, Apollo gave Pandora the gift of music. If your name conjures up pleasant thoughts, your customers may respond to your business on an emotional level.

 

Doesn’t Have Negative Connotations

You’ve likely heard the story of how General Motors (GM) named one of its models “Nova” without realizing that the Spanish translation is “doesn’t go”. Not a good name for a car. Don’t use a name that you don’t know the meaning or history of. 

 

It Hints at What You Offer

Try to adopt a business name that gives some information about what your business does. When customers see your name, they’ll have a good idea of what product or service you provide. 

 

It’s Catchy

You don’t want potential customers to find your business name uninspiring. It should be memorable and resonate with your target market. The catchy name Google started out as a joke about the search engine being able to search a googol (the number 1 followed by 100 zeros) of information.

 

It’s Easy to Pronounce & Sounds Good

It could be disheartening to spend a lot of time selecting the perfect business name only to have others mispronounce it. If it’s being pronounced correctly, does it sound good when said aloud?

 

Registering Your Business Name

Once you’ve selected the ideal name for your business, there are steps to take before officially registering your business with the appropriate government agency.

 

Conduct an Internet search

Perform an online search to see if someone else is already using that name.  During the business registration process, a search will be performed to ensure that your name isn’t already in use but you can save time by doing a preliminary search.

 

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Is Your Name Web-Friendly?

If your online search reveals that no one is using your desired business name, check a site like GoDaddy.com to see if the .com domain name is available. Although domain extensions such as .net, .org, or .biz may be available, the .com domain will give your business a more established appearance and it’s what customers expect. If the .com domain is taken, track down the owner by using the “Whois” tool at GoDaddy and see if they’re willing to sell it.

Domain registrars often offer a discount for adding the domain extensions beyond “.com” so you may want to add them to your order to keep others from publishing web sites with a similar name.

Before paying to register your domain name, check the social media platforms you plan to use to ensure that your business name is available. You’ll want to have consistency in your online presence. For example, the web site coach.com has the following social media accounts:

Facebook.com/coach

Twitter.com/coach

Pinterest.com/coach

If the .com domain name and social media accounts in your desired name are available, grab them quickly. With over 500,000 businesses being started each month, names go fast.   

 

Registering Your Business Structure

During the registration of your chosen business structure, it will be revealed if your business name is available. That same process should keep others from using your registered name. 

  • Sole Proprietorship/Partnership – When registering a sole proprietorship or partnership with a name other than the legal names of the owners, you complete the DBA form and the name is searched to ensure that no one within a certain area is using it.
  • Corporation/S Corporation During the incorporation process, the corporate name is registered and the state agency reveals whether another business has a confusingly similar corporate name. If not, you can use it. However, you don’t have exclusive rights to the name because unincorporated businesses may already be using it.
  • Limited Liability Company (LLC) When setting up an LLC, your name can’t be the same as another LLC on file in the state in which you’re filing.

If you want additional name protection beyond what’s required for your business structure, get a trademark or service mark for your business name. Conduct a search at the US Patent & Trademark Office site at USPTO.gov to ensure that your chosen name isn’t similar to a business name that’s already been registered.

 

Final Thoughts

Even after you settle on a business structure, changes in the law can make that structure less favorable. Reassess your business structure periodically to ensure that it still provides you with the flexibility, liability protection and tax advantages you need.

There’s a lot that goes into successfully selecting a name for your business. Ideally, the name that you choose will help to build a strong company identity, resonate with your customers, and grow with your business. 

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