Is incorporation right for my business?
If you ask me whether you should incorporate or not, I will give you the typical lawyer response, “it depends”. Each situation is different and depends on many factors.
Three key factors that go into making the decision of whether to incorporate or not are:
Liability Protection For Personal Assets
Income Tax Pro’s & Con’s
Business Management Pro’s & Con’s
Learn more about these three factors below.
Liability Protection for Personal Assets
Some attorneys universally urge clients to incorporate to protect personal assets from liability for business debts. In many instances that is a wise choice, but if exposure to massive liability is not a real concern, and you have ample liability insurance, it may not be worth the trouble and expense to incorporate.
For example, an amusement park where there is significant potential liability for a catastrophic accident, liability insurance may be so expensive for a sizable policy to cover such an event that incorporation would be a wise investment to protect personal assets of the owners.
On the other hand, a studio artist is not likely to have significant exposure for large liability claims, and incorporating may not make sense.
Where the real tough questions lie are with service businesses, such as a consulting practice, where the same liability concerns may or may not be present. In those situations, an attorney should discuss the real benefit of incorporation for your business versus the cost and ongoing legal requirements.
Income Tax Pro's & Con's
In order to make the best decision, this should be a joint discussion of you, your CPA, and your attorney.
The involvement of a CPA who is familiar with the income, expenses, and operation of your business is critical in doing this analysis. There are potential income tax benefits to incorporating which are too complicated to cover in depth here. On the flip side, you may be better off on an income tax basis not incorporating, to preserve pass through directly of expenses to offset personal income. Corporations frequently generate income “double taxation”, once to the corporation and the second time when distributed to the shareholders. However, there are numerous tax and accounting practices, such as making a sub-chapter S IRS election, which can minimize this potential downside of incorporating.
Business Management Pro's & Con's
A corporation must be run following legal requirements for meetings, designation of persons with authority to conduct the business, and other formalities which a sole proprietorship does not involve. If these requirements are not followed, the liability protection sought by incorporating is lost. Creditors might then be able to “pierce the corporate veil” legally to get to your personal assets.
If a number of owners are involved in the business, incorporation may be beneficial to outline the management responsibilities of each of the owners. This formalizes the roles more than in an unincorporated business. Incorporation also can define the roles of each owner in the business based on ownership of the stock or membership interests in the corporation.
Each business has unique features of operation which need to be analyzed before making the decision to incorporate. The expense of incorporation up-front, plus regular ongoing corporate requirements for keeping minutes and other legal documents should be considered.
In order to make the right choice, it is wise to hire an experienced attorney to guide you through the decision-making process.
Contact Adair M. Buckner today to schedule a free initial consultation*.
*(The free consultation does not cover actual review of documents or giving legal advice on a specific situation.)
Wondering if a different business entity type is right for you?
Check out this blog, which outlines the different entity types.