One of the first decisions a small business owner will likely face is choosing a legal structure
for their business. The most common business structures include sole proprietorships, business partnerships, limited liability companies (LLCs), and corporations. If you choose to structure your business as a corporation there are multiple types to consider, including C-corp
, and non-profit
Here we discuss some advantages and potential disadvantages of incorporating your business:
Common Motives to Incorporate Your Business
The term “corporation” means that the business is recognized as a separate entity
from the owners. Therefore, the business is owned and controlled by its shareholders, directors, and officers, although most states do allow
the same person to hold all of these titles. As a separate entity, corporations can transfer ownership to others through stock purchases which protects individual owners from liability should a legal case or financial issues arise.
Becoming a corporation often includes tax benefits you would not be entitled to under a different business structure. This is mainly true for S-corporations who split their income
between the business and shareholders, allowing it to be taxed at different income tax rates.
People who choose to register their business as a corporation typically desire a more formal business structure. Many business owners choose to incorporate because they intend to grow and expand their business in the short term. Once incorporated, you may plan to create an Initial Public Offering (IPO) or expand the business to multiple states, or possibly other countries.
What to Expect When Incorporating Your Business
It is important to note that every state has different rules regarding how business owners must go about registering
as a corporation. In most states, including Massachusetts
and Rhode Island
, some of the first tasks you must complete include choosing a unique business name
and obtaining an EIN number
for federal and state taxes. Gathering the required paperwork and having it approved could take several weeks to months, so give yourself plenty of time to complete this process.
Here is a general outline of the steps
you can expect in most states:
1. Choose a business name with a designation of “limited”, “corporation”, or “incorporated” somewhere in the title
2. Ensure that the business name you want is available before registering a “doing business as” (DBA) name. Both Massachusetts and Rhode Island have databases you can search to determine name availability.
3. Assign a registered agent and appoint your Board of Directors.
4. File articles of incorporation with your state.
5. Write your corporate bylaws and shareholder’s agreement.
6. Hold your first Board of Directors meeting and issue company stock.
7. Obtain the necessary permits and licenses to operate your business.
8. Register with the Internal Revenue Service (IRS) along with the appropriate state and local agencies.
9. Open a business bank account on behalf of the corporation.
For more detailed information on forming a corporation in Massachusetts or Rhode Island, visit https://www.dmlp.org/legal-guide/forming-corporation-massachusetts and https://www.sos.ri.gov/divisions/business-services/business-basics/your-structure.
Advantages of Structuring a Business as a Corporation
When deciding which business structure makes the most sense for your business, it is a good idea to consider some of the advantages provided by incorporation:
- Limited personal liability due to the business being a separate entity with shareholders owning a percentage.
- Ability to easily transfer ownership through selling shares of ownership or purchasing more.
- Continuity of business in the event of a crisis, such as a worldwide pandemic or personal health issues of an owner.
- Improved access to business capital that you would not have as a sole proprietor, business partner, or owner of a limited liability company.
As previously mentioned, an S-corporation can split income between the business and its shareholders. The advantage of doing so is that the IRS taxes business income and shareholder income at different rates. For purposes of taxation, any income you claim as salary is self-employment income. If you choose to operate your business as a C-corporation and distribute profits to shareholders, the IRS will tax that profit at both the shareholder and corporate level, also referred to as double-taxation.
Several other incorporation options are available as well, and it is recommended to meet with a business advisor or attorney to ensure that you understand which type would work best for your unique business needs.
Possible Disadvantages to Forming a Corporation
The fees required to apply for and maintain a corporation are prohibitive for some businesses. You will pay a fee in your state just to file the necessary paperwork to incorporate, and you may need to enlist the help of an attorney or business lawyer for some of the required documents. Taxes can be complicated with corporations, so you will likely need guidance from a business accountant. Another consideration is that corporations must abide by strict protocols, and they face heavy government regulations. A corporation could face fines and other penalties for failing to abide by the rigid set of expectations. And although there are many benefits to having multiple owners as shareholders in a corporation, if you want to maintain full control over each business decision, incorporating may not the best option for you.
At BankFive, we understand that choosing how to structure your business is not an easy decision to make on your own. If you are a business owner in MA or RI, schedule a consultation with one of our dedicated business banking experts today to start a conversation about your business goals and financing needs.