Are you in the process of starting a business? Do you want to understand the legalities of small business formation? Then read on.
Ask any entrepreneur how they created a successful business and they will tell you it all started with an idea. They saw a need in the marketplace, had the skills to provide a viable solution or product and they went for it.
But there’s more to starting a new business that is sometimes glossed over. And that’s the research and work it takes to form a business. Whether you plan to work from your home, have a small storefront, or will create hundreds of jobs in manufacturing, there are five important steps required before you set up shop.
Five Important Steps to Small Business Formation
Step 1: The Foundation of a Company
The first step in business formation is to define the legal structure based on ownership, taxes and liability. There are five basic types of business entities:
Individuals may opt for a sole proprietorship if they are starting a consulting business or some other professional service in which they will not be subject to liability. Generally, sole proprietors include just one person, but often married couples also choose this option as well. The ease of starting a business as a sole proprietor is tempting since it is the only type where there are no legal forms that need to be filed. The major drawback is that a sole proprietor’s personal assets are at risk if they are sued.
A partnership can be formed by two or more people. A general partnership means that all partners are actively involved in the business and all assume responsibility for the company’s debts and contracts. Limited partnerships allow for active partners who run the business and investor/silent partners who do not have a controlling interest in the company’s day-to-day operation.
Partnerships works best when the partners draft an agreement detailing who makes decisions and how buyouts will be handled if a partner wants out of the business. One perk of a partnership is the tax benefits in that the company doesn’t pay income tax, rather the partners do, limiting double taxation.
Limited Liability Company, LLC
An LLC, or limited liability company, is another way to limit double taxation. Companies that own business property often choose this option over a corporation. LLC’s also offer personal protection from lawsuits, as plaintiffs cannot come after personal assets.
An S Corporation is often chosen over a partnership or sole proprietorship because of its liability protection. The S Corp is its own entity, thus owners’ assets are not at risk if the company fails or is sued. S Corps also limit double taxation. This option is only allowed if there are fewer than 75 shareholders.
A C Corporation is the best option for companies with more than 75 shareholders or a company that wants to attract venture capitalists or go public. C Corporations have much more red tape and require formal shareholder meetings. There’s also double taxation in that the company profits are taxed and then the personal shareholder’s are also taxed.
Step 2: Naming Your Business
Registering your business name is a requirement in most states. Sole proprietors who do business under their own name are the exception. There are two main name registration steps to take before you can do business.
First, you’ll need to set up a DBA, also called “doing business as” or “fictitious name,” and file it with either the county or state, whichever is required where you reside. The legal name of a new corporation is required in order to get an employer tax ID, business license, or to set up a business account with a bank.
Second, you can choose to trademark the business name or logo to protect it from being misrepresented by competitors or other businesses.
Step 3: Special Registrations for Employers
Any business that has employees needs to obtain a tax identification number from the IRS and the state revenue agency. The tax ID number enables employers to file taxes and do withholding taxes for employees. Employers must also register with the state for workers’ compensation, unemployment and disability insurance.
Step 4: Dot the I’s and Cross the T’s
The most important thing to consider when forming a business is that you want to make sure you have followed all of the legal steps in order to legally do business, protect your assets, and file taxes appropriately.
While there are many websites and programs from the Small Business Administration to the Internal Revenue Service that can help you, seeking the help of an experienced business attorney is the best way to navigate through the complex legal steps and focus on what’s important—getting your business up and running.
Michael Schlueter is an attorney in Denver, Colorado, specializing in construction law, surety and fidelity, and insurance law. Schlueter, Mahoney & Ross, P.C. has been in business for over twenty years and is a top-rated law firm in the Denver area. Find out about their practice on Google+