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Guide to Choosing a Business Entity

The Kallas guide to choosing a business entity for your restaurant business.

One of the most important decisions you will make going into a new business is what kind of legal entity is right for what you want to do.

There are five basic forms of doing business: Sole proprietor, Partnership, LLC (Limited Liability Company), S Corporation or Corporation. Each has its own disadvantages and benefits.

The content below will help you understand how each entity differs.

Sole Proprietor [Schedules C and F]

Advantages:

  • Easiest business to organize
  • Owner free to make decisions
  • Minimum legal restrictions
  • Owner receives all profits
  • Business is easy to discontinue
  • If owner materially participates, losses can offset other income

Disadvantages:

  • Unlimited liability for the owner
  • Limited ability to raise capital
  • Skills limited to owner’s abilities
  • Income tax cannot be deferred by retaining profits

Partnership [Form 1065]

Advantages:

  • Easy to organize
  • Better financial strength than sole proprietor
  • Combines skills and judgments of more than one person
  • Has a legal status
  • Each partner has a personal interest in business
  • If partner materially participates, losses can offset other income

Disadvantages:

  • Unlimited liability for partners
  • Authority for decisions is divided
  • Income tax cannot be deferred by retaining profits

Corporation [Form 1120]

Advantages:

  • Life of business is perpetual
  • Stockholders have limited liability
  • Transfer of ownership is easy (sale of stock)
  • Easy to raise capital.
  • Shared Management
  • Adaptable to small and large businesses
  • Tax-free fringe benefits for owner/employees

Disadvantages:

  • Double taxation. Profits are taxed at the corporate level and dividends distributed to the shareholders are taxed at the individual level
  • Difficult and expensive to organize
  • Corporate charter restricts types of business activities
  • Subject to many federal and state controls

S Corporation [Form 1120S]

Advantages:

  • Double taxation of earnings is avoided
  • Same limited liability as C corporation
  • Pass-through of profits is not subject to SE tax as in a partnership

Disadvantages

  • Fringe benefits restricted
  • Shareholders pay tax on undistributed profits
  • Less flexibility for choosing a tax year
  • Number of shareholders is limited

Limited Liability Company [Form 1065 (LLC)]

Advantages:

  • Same limited liability as corporations
  • S Corp restrictions on number of owners does not apply
  • Can be owned by corporations

Disadvantages:

  • Earnings may be subject to SE tax
  • Income tax cannot be deferred by retaining profits
  • Life of LLC may be limited

In Conclusion:

Creating an entity does not mean you are doing business as that entity. Other legal paperwork may have to be done to transfer assets or formalize how the entity is to operate.

Kallas Company strongly recommends that you seek competent legal or other professional advice regarding what type of entity you should create, whether it should be a Michigan corporation and what other legal documents you will need to do business and protect yourself.

If you would like to form an LLC or Corporation, client here

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