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Is Incorporation Right for Your Business? A Primer for Small Business Owners and Entrepreneurs

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Is Incorporation Right for Your Business? A Primer for Small Business Owners and Entrepreneurs

By suek
Published: March 2, 2010

For many new business owners,;business incorporatio- may not be a four-letter word. But i-s certainly a loaded phrase.

So many myths, misconceptions and rumors abound about business incorporation that i's easy to see why some are at a loss as to whether incorporation is right for them, what costs are involved, and where to even start.

And as a new business owner, as sure as eggs are eggs, someone will throw the question'is your business incorporated' into the tangled mix of the business start-up process.

But rather than rush out to file your articles of incorporation, just because you think i's the right thing to do, step back and ascertain whether incorporation is right for you.

Here are some points to consider:

What is Business Incorporation?

Business incorporation has essentially become an umbrella term that covers the options available to you as you determine how to structure your business.

The options (not all of them formally legal structures) include sole proprietorship, partnership, limited liability company (LLC), non-profit, cooperative, or various forms of corporation.

The form of business structure you choose need't be set in stone, and can be changed as your business matures.

For example, many small business owners start out as sole proprietorships --a business owned and managed by one individual who is personally liable for all business debts and obligations. This is very common among independent contractors and freelancers. Another common start-up business structure is a partnership, where two or more people share ownership of a single business.

Formal incorporation as an LLC or other corporate entity often takes place at a later date--when the business has grown, and you find you need protection from liability risks, want to take advantage of certain tax benefits, and would like to secure a business entity that is legally separate and apart from you as the owner and your personal assets.

Whether you are the sole employee of your enterprise or you have several employees, incorporation can bring legal and tax protection for you as its owner. But can also bring tax burden, additional cost and paperwork. So i's important to understand the implications of the business structure you choose for you business. This Guide to Choosing a Business Structure from the Small Business Administration (SBA) provides clear and concise information covering the most popular business structures and the considerations you need to take into account before going down any incorporation path.

What are the Benefits of Incorporation?

Here are some of the benefits you can realize if you decide to incorporate your business:

  • Personal Liability Protection - An incorporated company is an entirely separate entity from you and your personal assets. It affords protection from any personal liability for your business debts and obligations. For example, if someone sues your company they can only go after your compan's assets, not your own.
  • Tax Benefits - If you incorporate you may gain tax benefits, although only under certain circumstances. This is one area to discuss with an accountant, as the marginal tax rates for corporations with taxable incomes in some cases can be higher than those for an individual in the same scale. Read more about the tax implications of incorporating on Scott Alle's Entrepreneurs' blog *here or get tax information from the government here.
  • Corporate Identity - Incorporating can give a great sense of credibility to your business.
  • Raising Capital - You can raise capital more easily through the sale of stock and securities if your business is incorporated.
  • Unlimited Life - Your corporation can have an indefinite life and outlive you. Do note that LLCs have a limited duration. Get more information on business structure differences from the SBA.

What are the Disadvantages of Incorporation?

Some of the disadvantages of incorporation, particularly for the small business owner, include:

  • Paperwork - Depending on the structure you choose, you may need to file two tax returns (one for you one for your business) and maintain detailed business records and formalities.
  • Cost - The fees associated with initial incorporation and ongoing maintenance can put a strain on the small business owner. LLCs, however, can be a more economic alternative to full blown incorporation.
  • Liability may not be as limited as you think - The main advantage of incorporating, limited liability, may be challenged by personal guarantees and/or credit agreements. When a corporation has insufficient assets to secure a loan, banks often insist on personal guarantees from the business owner. This can result in your being personally liable if your corporation can't meet its repayment obligations.

Is Incorporation Right for My Business?

There is no right answer to this question - the decision to incorporate depends on many factors such as your risk of liability, your tax obligations, business objectives, and so on.

Of the many business entities that owners consider, LLCs and Subchapter S Corporations (S-Corps) are two of the most popular. Read Should My Company be an LLC, an S-Corp or Both? to determine which features are most important to you and your company.

Because the needs of every business are different, and the law varies from state-to-state, it's worth an hour or two with a knowledgeable attorney to investigate all of the issues that will affect your decision.

How to Incorporate

If you have chosen to incorporate your company after careful planning and consideration, you will need to pursue the process directly with your state. In fact, you are required by law to register your business with the state whether you choose to be a corporation, non-profit, LLC, or a partnership.

Typically, if you only operate in one state, you should incorporate in that state. If you operate in multiple states, you should determine which state is the friendliest to corporations and incorporate in that state. Read more in Which State is best for My Small Business?.

Find out how to incorporate in your chosen state by following the state-by-state links here.

Additional Resources

  • Got Questions about Business Incorporation? Post your questions and share your experiences with other small business owners on the Business.gov Community Forum. Visit the Starting & Registering a Business Discussion Board.
  • Business.gov Incorporation Guide - This Web guide draws information from across government to provide small business owners with vital information and resources about what incorporation is and how it can work for your business.

The following are previous Business.gov blog posts that touch on the topic of starting and registering your small business:

*Note: Hyperlink directs reader to non-government Web site.

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