When starting a business, you will want to know what form of business entity to establish whether it be a Sole Proprietorship, Partnership, Corporation, S Corporation, or Limited Liability Company (LLC). Your form of business will determine which income tax return form you will need to file each year. The federal government include four basic types of business taxes:
- Income tax
- Self-employment tax
- Taxes for employers
- Excise taxes
If you have a friend, or someone close to you that is an accountant or familiar with business taxes then I advise that you talk to them before getting started. The Internal Revenue Service’s (IRS) Guide to Business Taxes is a great place to educate yourself on how each form will work, but just as you are an expert in what you do, it is always best to have someone you can talk to that is an expert in filing taxes.
Filing Your Federal Income Taxes
The IRS offers forms for downloading on their website and more information regarding each form of business:
A sole proprietor is someone who owns an unincorporated business by himself or herself. However, if you are the sole member of a domestic limited liability company (LLC), you are not a sole proprietor if you elect to treat the LLC as a corporation.
A partnership is the relationship existing between two or more persons who join to carry on a trade or business. Each person contributes money, property, labor or skill, and expects to share in the profits and losses of the business.
In forming a corporation, prospective shareholders exchange money, property, or both, for the corporation’s capital stock. A corporation generally takes the same deductions as a sole proprietorship to figure its taxable income. A corporation can also take special deductions. For federal income tax purposes, a C corporation is recognized as a separate taxpaying entity. A corporation conducts business, realizes net income or loss, pays taxes and distributes profits to shareholders.
S corporations are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income. S corporations are responsible for tax on certain built-in gains and passive income at the entity level.
To qualify for S corporation status, the corporation must meet the following requirements:
Be a domestic corporation
Have only allowable shareholdersHave no more than 100 shareholders
- including individuals, certain trusts, and estates and
- may not include partnerships, corporations or non-resident alien shareholders
Have only one class of stock
Not be an ineligible corporation (i.e. certain financial institutions, insurance companies, and domestic international sales corporations).
A Limited Liability Company (LLC) is a business structure allowed by state statute. Each state may use different regulations, and you should check with your state if you are interested in starting a Limited Liability Company.
Owners of an LLC are called members. Most states do not restrict ownership, and so members may include individuals, corporations, other LLCs and foreign entities. There is no maximum number of members. Most states also permit “single-member” LLCs, those having only one owner.
A few types of businesses generally cannot be LLCs, such as banks and insurance companies. Check your state’s requirements and the federal tax regulations for further information. There are special rules for foreign LLCs.
State Income Taxes
Nearly every state requires a business or corporate income tax. Like federal taxes, your state tax requirement depends on the legal structure of your business. For example, if your business is an LLC, the LLC is taxed separately from the owners of the business, while sole proprietors report their personal and business income taxes using the same form used to report their business taxes. You can visit the General Tax Information link on the State and Local Tax Guide for more specific requirements.
I hope that this gives you at least enough to understand how you want to structure your new business. If you decide to go one route to start say as a Sole Proprietorship, but then obtain a partner in the future and need to rework the business to a Partnership, then having someone you can count on to file the appropriate paperwork is best. But do remember, it is completely and entirely possible.