If you have a small business, you can create a legal structure that could afford your business tax benefits such as avoiding double taxation using pass-through taxation, and it could give your business liability protections against debts and other obligations. These liability protections will ensure you don’t lose your house, car, or other personal property. Hopefully, this article will shed some light on what it takes to incorporate a business and whether or not incorporation is right for your small business.
What is incorporation?
Incorporation is the formal legal process necessary for a business enterprise to form or become a corporation. The articles of incorporation are composed of formal documents that legally recognize the formation of the corporation. The articles contain specific important information including the name of the enterprise, address, agents, and principals of the corporation, the hierarchy of management, and what kind of stock and how much stock will be issued.
The articles of incorporation are also called Corporate Charter, Certificate of Incorporation, and Articles of Association. The filing of the articles of incorporation with the government body makes the corporation legal and can give a company significant benefits including certain tax advantages and protection from creditors.
Incorporation laws vary from country to country and from state to state in the US, and one of the purposes of incorporation is limited liability, which separates the enterprise’s assets and income from the owners and investors. Incorporation also legally separates the owners from the corporation, and it recognizes the establishment of incorporation.
What are the different types of corporations?
In the United States, here are three common ways to categorize corporations: C corporation, S corporation, and limited liability corporation (LLC).
C Corporation – A C corporation is a corporation that gets taxed separately from the owners of the corporation, and the assets of the shareholder (owner) are protected from claims by creditors. The corporation itself, not the owners, separately pays taxes on income and expenses. Corporate profits are subsequently distributed to the owners in the form of dividends, and owners are responsible for paying a personal income tax on that profit distribution. This creates a “double taxation” because the corporation pays taxes on the profits and then the owners pay taxes on their portion of the profits, the dividends. Because of the double taxation feature, many small businesses refrain from becoming C corporations.
S Corporation – An S corporation can be a closely held corporation, a partnership, or an LLC that meets the certain requirements (S subchapter) of the Internal Revenue Code. Corporations with 100 or fewer shareholders are given the benefit of incorporation instead of being taxed like a partnership. Unlike the C corporation, the income can be distributed directly to the shareholders without double taxation.
Limited Liability Company (LLC) – Technically not a corporation, an LLC is a business structure only found in the United States that follows the regulations of the state the LLC is in. It has characteristics of both a partnership (sole proprietorship) and of a corporation. It has flexible rules allowing it to use corporate tax rules or not-for-profit rules. It has both the pass-through taxation found in a partnership, and it has the limited liability of a corporation. An advantage of an LLC is owners aren’t personally liable for debts or liabilities of the company.
How Do I Form a Corporation?
Incorporation of your small business will advantageous for you and your shareholders because of the beneficial tax advantages and liability protections. The process to incorporate differs between states, so take a look at the steps below for incorporating your small business.
Be Licensing and Zoning Compliant – Check with your local Government about licensing, zoning, and permits you’ll need for your type of business.
Choose a Corporate Name – Choose a name that has not been used before to avoid legal repercussions.
Issue Stock – Decide which shareholders will be receiving stock and how much.
Prepare and File Certificate of Incorporation – This is typically a document stating owner, registered agent, addresses, stock shares information, and business name. It will be filed with the state.
Decide Who Will Be the Registered Agent – The registered agent will be the one who officially receives notifications and paperwork on behalf of the business.
File Articles of Incorporation – The actual filing fee ranges from $50 to $300+. You can hire companies to help and pay their fees in addition to the filing fees.
Draft Corporate Bylaws – This document addresses the structure and management of your company in addition to other details.
Create A Corporate Records System – This is where you keep all the documents to prove you are complying with state and IRS laws relating to corporations.
Have a Board Meeting – This is your official first board meeting that will include procedures such as adopting articles and bylaws, electing company officials, and keeping a log of the meeting’s minutes. This meeting should be conducted following a specific set of rules.
Review and Complete Federal and State Requirements – This is a procedure to ensure you have the necessary information and registrations through your state and local government such as employer identification number (EIN).
Depending on what state you’re doing business in and what type of corporation you have chosen, there can be other steps to follow. It might be helpful to hire a corporate lawyer to help with incorporating your business.
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