Okay, so things get rather complex quick when trying to clearly identify what a corporation is, can be, and how it’s viewed/treated under U.S. law along with taxing authorities.
In the content that follows our goal is to address common concerns of average folks interested in founding one, or in switching from another business entity (like an LLC) into a conventional corporation.
If you’re planning on forming a corporation, it’s highly recommended you do your homework or consult with a lawyer, have a CPA on hand, and know what you’re in for. There are many resources online to assist you, but please bear in mind not all websites contain accurate information. An article you read online isn’t a substitute for actual legal advice from an in-person or telephone lawyer consultation.
An independent business entity legally separate from management including founders, owners, officers, and directors. It’s registered with the Secretary of State and has an independent tax identification number. In the eyes of the law, a corporation is a separate legal entity with “corporate personhood”.
There are two formal types of corporations, but keep in mind it can be far more complex (especially if and when you talk to a lawyer). Where they differ primarily is in taxation and corporate ownership, but some similarities include the following.
These are some examples of corporations and their various forms.
Oh, there are so many, but we’re going to streamline them down into the core-five which are easy to understand.
Limited Liability Protection: This means owners and shareholders enjoy “limited” liability protection so they aren’t personally responsible for debts or being sued. The corporation is. However, this protection can be taken away very easily if there’s been unethical, illegal, or irresponsible behavior some of which is described above.
Unlimited Capital Generation: Corporations can generate and issue stock, so their ability to raise capital is unlimited far beyond that of much smaller organizations and business entities.
Corporate Taxation Benefits: Because corporations are separate from their owners, they pay taxes separately. Owners only have to pay taxes on profits paid (salaries, bonuses, and dividends), then everything else is filed under the corporate tax rate which is often going to be better than individual income tax rates.
Attractive to Potential Employees/Investors: Because of their growth and income potential (stock options), as well as certain taxation benefits, it’s typically going to be much easier for a corporation to attract talent and acquire investor funds. This, of course, depends on the nature and size of the corporation.
Management: Corporations are known for more dependable structures thanks to the formalities of maintaining a board of directors, elected officers and committees, bylaws, articles, minutes of meeting, etc.
Now, if we had to narrow down the field of disadvantages into three, this is how we’d wrap them up but keep in mind these aren’t disadvantageous in all circumstances.
Resource Demands: Unlike an LLC or partnership, corporations can cost a fair amount in terms of both man-hours and money. It takes time to go through the motions, assemble a board, set up bylaws, and everything else involved. When choosing to start a corporation, as with any business, you have to ask yourself whether this makes economic sense and whether your corporation will realistically be profitable this year, next year, five years from now and ten years from now.
Double-Taxation: First when the company makes a profit, and again when dividends are paid to shareholders.
Formalities & Paperwork: Corporations are highly regulated entities on all levels – federal, state, and sometimes locally – so that’s also a lot more paperwork, documents to be filed, forms, record keeping burdens, etc. If you’re not good at record keeping, then you need to find someone who is.
An odd question, though common nonetheless. But this needs to be said:
In an ideal world, no one should attempt to form a corporation in any state without first consulting with trained legal and accounting professionals! That’s the truth.
There’s a smorgasbord of expenses and formalities to consider and founders can get in trouble quick if they don’t have help or know what they’re doing. If all you’re trying to do is set up a business entity for limited liability protection, consider other less complex options like an LLC. That being said, here are some realistic situations in which forming a corporation might be a better idea.
Absolutely, Startup Savant has a TON to offer just about anyone interested in starting their own business venture and learning how to form a corporation.