Business Incorporation Guide


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Should I incorporate my business? When is the right time? How? Those questions are what we attempt to answer in this guide.

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Business Incorporation Guide

  1. 1. Page 1 of 13 A Guide to Incorporation for Small Business – by presents… A Guide to Incorporation for Small Business Disclaimer: This e-book is for informational purposes only. For advices on incorporation, please consult with competent business consultants and incorporation experts.
  2. 2. Page 2 of 13 A Guide to Incorporation for Small Business – by To incorporate or not to incorporate? It seems that more companies feel the need to incorporate than ever before. In today's society, just everybody can sue and everybody can be sued and that makes a corporation all the more attractive. However, there are unfortunately more obstacles surrounding incorporation than ever before. So what are the advantages and disadvantages of incorporation? Is it right for your company? First off, incorporation might be the best decision for one company and the worst decision for another! There is not just one right answer out there. The key is to determine what liability concerns you have in particular and what tax benefits you desire and then find out if incorporation will help your company fulfill its goals better. Probably the biggest benefit of incorporation goes to the company's owner. Once a company becomes a corporation, it essentially becomes a separate entity and its owner will only have limited liability as a result. Don't think that this gets individual shareholders out of the clear, though! Shareholders can be held liable in many circumstances; they can't always hide behind the corporation. There are many other benefits, though. Investors are drawn to corporations, and for some companies, investors are invaluable. Not only will investors buy stock in your company, but your employees can have stock options as well. Your employees also might be happier working for a corporation because corporations are forced to be well-organized and consequently, are very efficient. Still, there are a handful of glaring disadvantages of incorporation that you should also consider. While hopefully a corporation will run like a well-oiled machine, it takes a long time to build that machine. And time is money. Incorporation is a process that all must be entirely committed to. A company doesn't turn into a corporation over night!
  3. 3. Page 3 of 13 A Guide to Incorporation for Small Business – by Even after the process of incorporation is over, it can be a real headache to those in charge, as they must welcome a lot of bureaucracy into their company. Many decisions and practices are standardized for corporations across the country and this means your employees might have to go to a regular meeting every week that they didn't have to go to before. It's no secret, but small companies are a lot more personal and easygoing than corporations. There's also the whole tax issue. While incorporation can sometimes lead to some great tax benefits (which you'll want to research on your own), it can also lead your company into some financial difficulties. Whether or not taxes get better or worse for your company depends on your specific situation, but don't assume tax benefits will be waiting for you just around the corner if you incorporate. Will incorporation make your company bigger, better, and more secure? Probably. But what is the price you will pay for a sturdier company? If you don't have many concerns about liability and your autonomous company is performing quite well, then there might be more cons than pros to incorporation. So, when deciding whether or not to incorporate, just remember to take into consideration every aspect of your company.
  4. 4. Page 4 of 13 A Guide to Incorporation for Small Business – by What are the long term benefits of incorporating your business? If you're considering turning your small business into a corporation, there are certain benefits to expect when it comes to taxes, liability, and company operations. Though incorporation isn't the answer for every business, it's good to be familiar with the benefits from the start so you can maximize your company's potential for future growth. Incorporate Your Business for Possible Tax Advantages Tax benefits are the main reason many companies decide to incorporate. A corporation enables you to accumulate your wealth and assets with special tax rates meant for corporations. These rates are a bit lower than tax rates for individuals. Also, when you own a small business and do not incorporate the business, you must pay self-employment taxes (including social security tax) along with regular income tax, either quarterly or in one lump sum. Operating as a corporation enables you to set up a payroll structure similar to working for someone else, where these taxes are taken out of your paycheck little by little on a regular basis. Corporations are able to deduct many operating expenses without restriction. They can also split income with shareholders, a process that often lowers the overall tax bracket for the corporation. The term for this is called "shifting." Corporations are also less susceptible to IRS audits whereas sole proprietors are targeted frequently for audits. Corporation Benefits for Employees When you incorporate your business, you may receive tax-free benefits as an employee such as medical insurance, life insurance, a retirement plan, education, work-related travel, and client or employee entertainment. Most states allow for these benefits even if your corporation only has one employee. Liability Benefits
  5. 5. Page 5 of 13 A Guide to Incorporation for Small Business – by Liability is another major benefit of forming a corporation. Because a corporation is a legal entity of its own, it is similar to person, which means it can be sued or sue another. The shareholders are not held responsible for the corporation's obligations and debts. In a sole proprietorship or partnership, you could lose everything you have (including your home and personal assets) if a lawsuit is filed against your company. Corporations Live On After you've retired or passed on, your corporation will still exist for another to continue the business. This is possible because a corporation doesn't rely on one or two persons to be an operating business. It is a separate legal entity that can be operated by a group of shareholders and board of directors. Financial Benefits When you incorporate, you give your company the ability to grow financially. It's much easier to raise money for a corporation, and shareholders can help make things possible that you as an individual cannot accomplish on your own. The business will have more opportunity to grow and become a great success as a corporation. Forming an LLC Even when considering all the benefits of incorporating, you might still be hesitant about this decision. Forming an LLC (Limited-Liability Company) is another option. When you form an LLC, you are creating a legal entity for your business just as with a corporation. You are not legally liable for your company's debts, but the tax requirements are different than those of a corporation. Be sure to study the differences between the two before making a decision. LLC formation might be the right avenue for your small business.
  6. 6. Page 6 of 13 A Guide to Incorporation for Small Business – by If you feel it will benefit your business to incorporate, you can check out great resources on the Web to help the process go smoother. There are many websites that enable you to incorporate online and provide helpful tools so you can start enjoying corporate benefits in no time.
  7. 7. Page 7 of 13 A Guide to Incorporation for Small Business – by When Is The Best Time To Incorporate Your Small Business? If you're a sole proprietor, perhaps you've considered incorporating your small business or self- employment activity. And so maybe you've been wondering, "When is the best time to incorporate?" From a legal standpoint, any time is the best time. The sooner you incorporate, the sooner you make the move from the world of unlimited liability to the world of limited liability. From a tax savings standpoint, any time is the best time. The sooner you incorporate, the sooner you will start putting more money in your own pocket and less in Uncle Sam's. But from a **tax reporting** standpoint, there is one time of year that stands out as best: January 1st. Why is that? Assuming you have a sole proprietorship (or other entity, such as a partnership) that is up and running as of January 1, and assuming you then incorporate that existing entity on any date other than January 1, you face the possibility of filing not one but two business income tax returns for that year. Here's an example to clarify this important point . . . Let's say you've been operating your sole proprietorship for a few years, and in early 2006 you decide to incorporate. In January you get around to starting the paperwork, but life gets in the way and you finally get it done in late February. By the time your state processes the Articles of Incorporation, the start date of your new corporation is March 1.
  8. 8. Page 8 of 13 A Guide to Incorporation for Small Business – by For 2006, you must file a Schedule C for the period of January 1 through February 28, when your business was still a Sole Proprietorship. And you must also file a corporate income tax return for March 1 through December 31. Maybe that's no big deal. Maybe you enjoy filing one business income tax return so much, filing a second one doesn't bother you. And it may be that the inconvenience of filing two tax returns in 2006 is far outweighed by the legal and tax advantages of incorporating. Keep in mind, too, that 2006 will be the only year you have to do this "double duty". In 2007 you will only have to file the corporate income tax return. But if you are thinking about incorporating, the best time to do it, from a tax paperwork standpoint, is as of January 1. Only then do you have a "clean break" from the old sole proprietorship to the new corporation. This timing issue can also be relevant if you decide to make the switch late in the year. If the effective date of the incorporation is November 15, you will have to file a Schedule C for January 1 through November 14, and a corporate return for November 15 through December 31. In that scenario, you should ask yourself, "Do the benefits of incorporating outweigh the convenience of waiting until January 1?" So before you decide when to incorporate, take a moment to reflect on the tax reporting consequences of incorporating on January 1 vs. any other date. Sometimes it may make sense to wait a few weeks (as in the second example), and sometimes it makes sense to "do it now", especially when January 1 is nearby.
  9. 9. Page 9 of 13 A Guide to Incorporation for Small Business – by How to incorporate your small business? To incorporate business is not difficult, but there is a process to follow. This step-by-step guide will help you get on the right track. Prepare for Incorporation To prepare for incorporation, first choose your primary business location. If your business operates in only one state, you will need to incorporate in that state. If your business operates in multiple states, then you have the option to choose which state to incorporate in, usually the state that's more business friendly when it comes to taxes and laws pertaining to business. Next, select a name for your corporation. Check with your Secretary of State to make sure the name you choose is not already taken by another company. Also, do research online to be sure the name is not taken by another business and doesn't have a patent by another company or individual. Once you're sure the name is free to use, you can register your company name. The name will likely need to be registered as "Doing Business As" or "DBA." Choose a Filing Agent The next step is to decide who will register your corporation, receive forms for incorporation, and file your paperwork. The least expensive route is to do all paperwork yourself, but if you're completely new to incorporation, you'll benefit tremendously by hiring an agent. The agent must live in the state where you will incorporate the business. The agent may be an attorney who provides incorporation services or the agent can be a service that specializes in incorporation. Hiring a service is usually far less expensive than hiring an attorney. Develop a Corporate Structure Whether you're the only member or shareholder of your company or you already have multiple shareholders, you should determine a corporate structure before registering the corporation. To
  10. 10. Page 10 of 13 A Guide to Incorporation for Small Business – by structure the company means to determine how the stock will be spread among shareholders along with other rights such as voting rights and finances. Be sure everyone is in agreement with the structure and put everything in writing before filing your paperwork to incorporate the company. Next, put together your corporate by-laws, or a set of rules that determine how board members will be elected, their duties, how and when board meetings are to be held, and other important details of how the corporation will be operated. Ready to File Now you're ready to obtain an Employee Identification Number (EIN) and select a board of directors for your company. Once these two tasks are accomplished, check to be sure you have all necessary paperwork and check the company name availability once again to be on the safe side. Now, you're ready to file your corporate paperwork for registration. Forming an LLC - Know the Difference Keep in mind that forming a corporation differs from forming an LLC (Limited-Liability Company). When you form an LLC, your business will be treated as a sole proprietorship or partnership under federal and state tax laws. You will be required to report profits and losses, income, credits, and deductions on your individual tax return. Corporations, on the other hand, pay taxes on the company's profits. The shareholders are treated as individual employees, and each receive their own salaries and file their personal tax returns separately. LLC formation requires less paperwork and has fewer legal issues than a corporation. If you're pressed for time and want to get things moving quickly with your company's incorporation, there are websites available to help you incorporate online. These sites provide printable paperwork, state-by-state instructions, and other helpful items to make it easier than ever to incorporate your business.
  11. 11. Page 11 of 13 A Guide to Incorporation for Small Business – by Some additional tips on business incorporation… Naming your business properly is important. It should be distinguishable from other companies. Depending on where you incorporate, it must contain words like ‘Limited’ or ‘Incorporated’. It must also not have words that imply any other purpose other than what is stated it its articles of incorporation or the corporate laws of the state. These would be words like ‘Bank’ or ‘Government’. Picking a place of business is a crucial step. You need to decide which state or country to incorporate. Many states have different laws that govern how you incorporate business practices. These laws also may govern how you run your company. Now that you have performed these functions, then the actual structure of your company will begin to take place. You will pick your board of directors, assign company byelaws, adopt the articles of incorporation and draft a shareholders contract. For a small company with 1 or 2 partners naming your board of directors may be a simple process. For a larger company this may be a delicate and important task. A board of directors perform specific duties decreed by the corporation charter. This may be appointing executives, handing out shares, assigning dividends or other things. In larger corporations a board of directors may have influence when companies incorporate company procedures. Shareholders may be one partner, most partners, or in the case of a public corporation may be the general public. For a small company traditionally 1,000 shares are assigned. It is possible that there will need to be additional shares assigned from the beginning. Research your market. The financial success of your company will depend on knowing the product or service you will sell. In order to successfully grow in any venture you must know your industry. This will allow you to choose a name and a strategy for your business.
  12. 12. Page 12 of 13 A Guide to Incorporation for Small Business – by Define a clear marketing strategy. Getting the word out about the potential of your product or service is very important. If no one knows about you, how can they buy from you? Businesses often cut back of advertising and marketing when money is tight; a big mistake. If cost is an issue, keep your marketing traditional, perhaps an ad in the yellow pages and passing out business cards. Look for cheap ways to get at potential customers. Newspaper ads are very expensive and too untargeted. Then, you should know your demographics. Where do you intend to set up business? What is your target market in that location? Will your offer be suited to their taste and lifestyle? Remember how big and diversified the business world is now is so it is wise to explore your area first. It will also help you determine the cost of starting up business in your chosen location. The reasons for your incorporation are clearly evident. A sole proprietorship causes you the individual to be responsible for any legal action against your organization. When your company has a lawsuit against them, the liability is on your shoulders. Your company incorporation is a blanket protecting you against legal and financial nuisances.
  13. 13. Page 13 of 13 A Guide to Incorporation for Small Business – by Additional resources For more information on business incorporation and any other business and entrepreneurship topics, be sure to visit Good luck in your entrepreneurial endeavor!