Choosing a Business Entity

While there are many kinds of business entities — C corporations, S corporations, LLCs, LLPs, Partnerships, and Sole Proprietorships — one of 2 choices will work for most businesses:

1. A single-person business should be a single-member LLC.
2. A multiple-person business should be a C Corporation.

I do not recommend the following entity types under any circumstances:

• Sole-proprietorship
• Partnership
• S Corporation

Sole-proprietorships and Partnerships expose the business owner(s) to personal liability. S Corporations are like LLCs except they are more complicated and expensive, so just use an LLC instead.

Entity Choice for a Single Person Business

A single-person business should always be a single-member LLC. I do not recommend the sole-proprietorship route for liability reasons.   If you are an LLC and someone sues you, you can either defend the suit or just go out of business (effectively conceding the lawsuit with minimal personal loss).  If you are a sole-proprietorship and someone sues you, you have no choice but to defend the suit because you are being sued personally.

If your business is a single-member LLC, you report income on Schedule C of your personal tax return.  Your business income is taxed once along with your personal income. 

Entity Choice for a Multiple Person Business

The multiple-person business should almost always be a C Corporation. This is a controversial statement and many accountants might disagree and recommend an LLC. A C Corporation is subject to double taxation: the corporation’s income is taxed once as profit; then the income is taxed again when distributed to shareholders as dividends. The effective tax rate can be much higher than the personal tax rate.

The income for an LLC is not subject to double taxation. However, the income tax paperwork for a multiple-person LLC is more complex: the LLC must issue a Form K-1 to all members that detail their share of the business’s income. Each member then files the K-1 with his or her personal tax return. The K-1s must be prepared a month or two after the end of the year, which tends to be the busiest time for accountants.

If all the LLC members are active participants in the business, then a C Corporation is much simpler. Instead of paying double-taxed dividends to participant-shareholders, the C Corporation can just pay the participant-shareholders directly, as employees or contractors. Double taxation is avoided because the corporation can deduct the payments as expenses. Finally, a C Corporation files its taxes on a Form 1120, independently of all shareholders.

There are exceptions to this rule, which will detailed in later articles. However, these two structures should be sufficient for almost all small businesses.

More Information

Types of Business Entities in New Hampshire