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Choosing a Business Structure

 Choose your business structure carefully. Your choice affects how your business is taxed, your financial liability and who makes decisions about the company.  For a variety of reasons, we generally recommend forming a Limited Liability Company, a/k/a L.L.C. for most small business, start-ups in New Jersey.  Although we recommend talking to your accountant, only an attorney licensed to practice law in the State of New Jersey can advise you.

Sole Proprietorship

A sole proprietorshipis a business that is owned and operated by an individual. It is the simplest and most common structure chosen to start a business. There is no distinction between the business and you, the owner. You are entitled to all profits and are responsible for all your business’s debts, losses and liabilities.

Tax Implications

You are entitled to all profits and are responsible for all your business’s debts, losses and liabilities. Because you and your business are one and the same, the business itself is not taxed separately-the sole proprietorship income is your income. You report income and/or losses and expenses with a Schedule C, E, F, etc. and the standard Form 1040. It’s your responsibility to withhold and pay all income taxes, including self-employment and estimated taxes.

General Partnership

A general partnership is formed by two or more persons who agree to contribute money, labor, and/or skill to a business and to share its profits, losses, and management. All partners typically are held legally responsible for their own actions and the actions of the other partners.

Tax Implications

A partnership is a single business where two or more people share ownership. A partnership must file an annual information return Form 1065 with the IRS to report the income, deductions, gains and losses from the business’s operations, but the business itself does not pay income tax. Instead, the business “passes through” any profits or losses to its partners. Partners include their respective share of the partnership’s income or loss on their personal tax returns.

Corporation

A corporation is a separate legal entity from the individuals who form it and its owners (stockholders). Owners are generally protected from personal liability from business debts. You may apply to the IRS to be either an S-corporation or a C-corporation, which has implications on income taxes.

Professional corporations and professional LLC’s register with the Business Registration Section of the NJ Department of the Treasury. These include attorneys, accountants, doctors, therapists, and many other professions.

Tax Implications

S-Corporations

An “S-Corporation” is a special type of corporation created through an IRS tax election. It is generally not subject to corporate tax rates. It has between 1 and 100 shareholders and passes through net income or losses to shareholders. The business profits are taxed at individual tax rates on each shareholder’s individual tax return.

There is an important caveat, however: any shareholder who works for the company must pay him or herself “reasonable compensation.” Your corporation must file the Form 2553 to elect “S” status within two months and 15 days after the beginning of the tax year or any time before the tax year for the status to be in effect. S-Corporations use IRS Form 1120S to report revenue to the federal government.

C-Corporation

A “C-Corporation” is taxed as a separate business entity. Corporations have their own tax form and their own tax rates. Corporations may choose to retain their profits and earnings as part of their operating capital, or they may choose to distribute some or all of their profits and earnings as dividends paid to shareholders. Dividends paid to shareholders are essentially taxed twice. C corporations are taxed once at the corporate level, and again at the individual level.

C- Corporations use IRS Form 1120 to report revenue to the federal government.

Limited Liability Company

A limited liability company or LLC is legally distinct and separate from its owners. An LLC offers its owners both limited personal liability for actions of the business and special tax treatment that may prevent what has been called “double taxation” of the owners’ income.

Tax Implications

(For Professional LLCs and Disregarded Member LLCs, see the tax implication discussion above under corporation.)

A Limited Liability Company or LLC is a hybrid type of legal structure that provides the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership. The “owners” of an LLC are referred to as “members,” not shareholders or partners.

LLCs that have more than one member will be treated as a partnership for federal income tax purposes unless the members elect to be treated as an association taxable as a corporation.

An LLC with only one member is not recognized for tax purposes as an entity separate from its owner. No election is required as the LLC is invisible to the federal tax law.  However, the single-member LLC is a separate entity for state law purposes and is taxed as either a partnership or a corporation depending upon the member’s election.

You should file the following tax forms depending on your classification:

  • Single Member LLC. A single-member LLC files Form 1040 Schedule C like a sole proprietor.
  • LLC filing as a partnership. An LLC designated as a partnership files  Form 1065 partnership income tax return.
  • LLC filing as a Corporation. An LLC designated as a corporation files Form 1120 or 1120S, the corporation income tax return.
  • Disregarded Member LLC.  Reports income as a part of the owner’s income tax return.

Limited Partnership

A limited partnership or LP may be formed by two or more individuals, partnerships or corporations. Limited partnerships have both general and limited partners. A limited partner is usually the investor. General partners are involved in operating and managing the business and are subject to unlimited liability for the acts and debts of the partnership.

Limited liability partnerships or LLP’s are not widely used in New Jersey,  have only general partners, but nonetheless afford protection from personal liability.

Tax Implications

Partnership income and expenses flow through to the individual partners.  Income is taxed to the partner whether or not it is actually distributed.