Once you have a business that you can identify with, you will need to consider what type of business entity you want to be.

Choosing the type of business entity that will work best for you can be mind-boggling, but let me try to simplify your decision.

You can choose between a sole proprietorship, a limited liability company known as an LLC, a corporation, or a partnership. Some have pros and cons for liability protection, as well as tax-related pros and cons.

Single owner – A sole proprietorship is designed for one person. Married couples can choose to pay taxes as a sole proprietorship; each spouse must file their own IRS Schedule C as well as their own Schedule SE for reporting Social Security and Medicare. By filing your return this way, you both get a credit for Social Security and Medicare taxes. The two must be the sole owners and both must be actively involved in the business.

A sole proprietorship provides the least amount of protection from a liability standpoint. There is no separation between the business and you. You and the business are viewed as one in the same, so the liabilities of the business are yours. If you were to die, the business would cease to exist.

As for taxes, your income is added to your 1040 with the use of a C schedule. Your losses are also rolled over to the 1040 from the C schedule, which allows your losses to roll over to any W2 income you may have. This is considered a pass-through entity, because your income and losses roll over to your 1040. Most business deductions are allowed for sole proprietorship businesses. Most home based businesses choose to be sole proprietors.

There is no cost to become a sole proprietorship, there are no documents to file. You must check with your city or town to obtain a business license to work from home. The cost is usually nominal around $15.00 to $25.00 or so, but it’s the right way to start a business and, again, it shows you’re in business to be in business, versus. be seen as a hobby.

When opening a bank account, if you are not using your own name for your business name, most will require you to file an assumed name certificate with the county. The cost is around five to ten dollars. They then require that you run an ad in a local newspaper for two to three weeks announcing your new business and name. The bank will then open your business checking account for you under your assumed business name. This is a very simple procedure that makes your business legitimate.

limited liability company – A limited liability company, LLC is very similar to a sole proprietorship because all of its owners are joint owners of the business and share in the profits and losses together. The LLC offers owners some protection for the company’s liabilities to others. yours. You must file a form with the state to create an LLC. Limited liability companies are treated as a sole proprietorship for tax purposes. With a single owner, the profits and losses are shown on a schedule C just like the sole proprietorship. If there is more than one owner, the LLC is considered a partnership. The LLC must use IRS partnership form 1065 for taxes. The LLC must also use IRS Schedule K1, Partners’ Income Shares, Credits, Deductions, etc. showing the assignments of profits, credits for losses and deductions of its members. A copy is given to each member for calculating income or loss to report on their Schedule E, Supplemental Income and Loss, along with their 1040 personal tax return. Schedule E flows through the 1040, which makes a partnership limited liability also in an intermediate entity.

Since you have filed a document with the state, you can use it when opening a bank account in the name of the business.

A Limited Liability Company can choose to be taxed as a corporation by filing IRS Form 8832, or if it has two or more members and does not file the above Form 8832, the LLC will be treated as a partnership. If you only have one owner, you will be treated as a sole proprietor when you file your taxes, you will use a Schedule C.

You will also need to apply for a city or town business license.

Corporations – A corporation can be classified as a C-Corp or S-Corp. Most small and medium sized businesses choose to be an S-Corp. for tax reasons. Many S-Corps have only one owner. An S-Corp is also a pass-through tax entity, because the income rolls over to its 1040. An S-Corp doesn’t pay taxes as an entity itself, everything rolls over to its owners. An S-Corp can have up to 99 owners before becoming a C-Corp. S-Corp taxes are reported on an IRS Form 1120S.

A C Corporation is a state chartered company that is owned by shareholders. No shareholder is personally liable for the debts of the corporation. Legal control of C-Corp rests with the shareholders. Shareholders may or may not be responsible for the day-to-day operations of the business; delegate to a board of directors and company officials. Corporations must file corporate tax returns to report the corporation’s income or loss. Officer income is typically W2 income that must be shown on each officer’s IRS 1040 tax return. Because the C corporation must pay income taxes on its corporate profits, and the income paid to its owners is also taxed, it is considered to be double taxed. C-Corp taxes must be reported on an IRS Form 1120.

Therefore, most small and medium-sized businesses choose Not be classified as C-Corp. However, when first incorporated, all businesses are incorporated as C-Corps and an election must be made in a timely manner to be considered an S-Corp by the IRS.

To become a corporation, you must file incorporation documents with the state. Most will file in the state in which they live. Some believe that it is advisable to incorporate in states like Delaware. The problem with out-of-state incorporation is that you will need to file two tax returns, one with each state. I believe that the benefit of other state incorporations is to hide or mask the true owners of the corporation. Again, most companies choose to incorporate in the state in which they choose to do business.

A corporation provides protection to its owners in the fact that they are separate. The corporation is a legal entity on its own. Corporations can own real estate, property, a corporation can open bank accounts under the corporate identity, and corporations can also borrow money. Owners are often protected from lawsuits and liability by the corporate veil.

The cost of incorporation is assessed by each state. Most of the time, a company will hire an attorney or other professional to prepare and file corporate documents. Some tax professionals offer this service. You will also need to choose a registered agent for the company. A registered agent is the person who obtains all the documents related to the corporation. A registered agent or business owner, attorney, or tax professional. You will also need to keep a record of annual meetings. A corporate seal is generally not required, but it is an additional cost if you choose to use one.

An association – There are two types of associations. The two most common are a general partnership and a limited liability partnership. A general partnership can be formed by verbal agreement between two or more persons, but a legal partnership agreement is strongly recommended for any partnership.

In a general partnership, each partner is responsible for the debt of the entire business and for the actions of the other partner. A general partnership is dissolved immediately upon the death of any of the partners involved, although personal liability to the partnership’s creditors exists even after the partnership is dissolved.

In a limited liability partnership, also known as an LLP, each partner is liable only for the amount invested in the partnership. In the event of the death of a limited partner, the partnership would remain intact. Each partner pays individual taxes on their proportionate share of the net income of the partnership.

A partnership must file an IRS 1065 form for the partnership. An IRS Schedule K1, Partner Income Share, Credits, Deductions, etc. must be filed for each partner and attached to IRS Form 1065. A copy is given to each partner for the calculation of income or losses to be reported on their schedule E, Supplemental Income and Losses, together with their personal 1040 return. Program E flows up to the 1040, which makes a partnership also a passing entity.

An LLP can also act separately from its owners by owning real estate, property, and borrowing money.

Again, you must apply for a city or town business license.

A partnership can also open a bank account, using the partnership documents.

*Note: A partnership will automatically be created when two or more people come together for profit and do not incorporate or form an LLC or LLP, and are not spouses. So, if you’re running a business together with someone else right now, unless you’ve filed for incorporation or an LLC, it’s a partnership.

A partnership can be owned by an individual, a corporation or another partnership, this is called tiered structuring and it gets very complicated with taxes. The tired structure also makes it more difficult for the IRS. For more information, you can purchase our “Home Business Tax Guide.”

Owning your own business is an “American dream” for many. With the current economic turnaround, foreclosures, job cuts, and downsizing, running a home business has never looked so good! Many are looking more closely at becoming business owners.

The easiest way to start is a home business. Many successful people from the “corporate world” have found great success leaving their day jobs to run wildly profitable businesses at home. Many start part time and grow full time. The IRS doesn’t care if it’s a part-time business, as long as it’s run professionally and legitimately as a business, it can be tax deductible. Many new entrepreneurs will be created during this paradigm shift.

IDC, one of the leading national research firms, believes that there are approximately 35 million households with home offices in the United States. The success rate for a home business is 70% and will last more than three years according to the home business institute. Entrepreneur’s magazine estimates that home-based businesses generate $427 billion each year. Home-based business owners average $63,000.00 and more in income per year according to IDC statistics. The SBA Office of Advocacy shows that in the year 2000 nearly 20,000 entrepreneurs earned more than a million dollars operating from home businesses. WOW, that’s a great documented success story.

With that amount of earning potential, many are taking a hard look at direct marketing businesses from home. If you are one of the many and you have done your homework, you know what business venture you are going to start, you have asked yourself all of the above questions. Are you ready to start.

In my next article, part 3, we’ll discuss the many business tax deductions, “write-offs” available to home-based business owners.