How to Choose the Type of U.S. Company Registration?
How to choose the type of company to incorporate in the U.S. is an important factor that every entrepreneur needs to consider, and the difference in the type of company can have different legal liabilities and tax implications for the entrepreneur. In light of this, the article will introduce four categories of business entities: sole proprietorships, partnerships, limited liability companies, C-Corporations, and S-Corporations.
- Sole Proprietorships
A sole proprietorship refers to an unincorporated business entity with a single owner who is personally liable for the business’s net profits and pays individual income tax on them. It is common for sole proprietors to operate under their own names, as there is no requirement to establish a distinct business or tax ID number.
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Tax Considerations
A single owner who is personally liable for the business’s net profits income is generally reported on Form 1040 and taxed at individual rates.
(a) Business Income and Deductions
Individual business owners are required to disclose their net business profits on Schedule C. Additional deductions, such as those for self-employed health insurance, can be claimed on Schedule 1.
The Qualified Business Income Deduction applies at a rate of 20% of the lower of qualified business income or modified taxable income.
(b) Additional Medicare Tax
The Additional Medicare Tax has been in effect since 2013. Taxpayers who self-employment earnings over $200,000 as single filing or $250,000 for married filing jointly are subject to an additional 0.9% tax on Medicare.
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Legal Liability
The liabilities of a sole proprietorship are considered to be the personal liabilities of the business owner, and the company ceases to exist in the event of the death of the sole proprietor. The profits of the business are the personal income of the owner, and legally the corporation is nothing more than an individual using a trade name, and when the assets of the business are unable to repay the business liabilities, the owner is required to pay the debts of the sole proprietorshipfrom personal property. Therefore, this form of entity is more suitable for industries with low risk.
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- Partnerships
A partnership refers to a formal agreement between two or more owners to jointly manage business and distribute its financial gains and obligations. Generally, partnerships are categorized as general partnerships and limited partnerships.
In a general partnership, all partners bear equal legal and financial responsibility. Each partner is personally liable for the partnership’s debts, and profits are distributed evenly among them. The details of profit sharing are typically outlined in a formal partnership agreement. Limited partnerships represent a combination of general partnerships and limited liability partnerships, requiring at least one general partner who assumes full personal liability for the partnership’s debts.
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Tax Considerations
Partnerships are not required to pay income tax at the corporate level but required to complete tax information to file Form 1065 each year. General partners are subject to self-employment taxes on business income, while limited partners are generally exempt from such taxes.
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Legal Liability
Partners have to share profits, losses, etc. Partnerships are set up in accordance with the individual laws of each state, such as fund corporations, partnerships, corporation, and other organizations (e.g., limited liability companies).
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- Limited Liability Companies
A limited liability company (LLC) is a type of partnership, but they can be formed by filing articles of organization with the appropriate state agency. A single-member limited liability company (SMLLC) refers to an LLC with only one member. An LLC is a hybrid structure that allows owners, partners, or shareholders to limit their liability while enjoying the tax and flexibility advantages of a partnership.
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Tax Considerations
Each member of an LLC will be taxed in proportion to his or her ownership share of business income, using Form 1065 (similar to a partnership) to report business income or loss (share of profit or loss) to the IRS. In a single-member limited liability structure, an individual owner assumes responsibility for managing the company and fulfilling tax obligations and can report profits or losses from business activities on Schedule C of Form 1040.
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Legal Liability
This structure provides limited liability protection for its members while allowing gains and losses to be passed through to the owners as income on their individual tax returns. A limited liability company may have one or more members, profits and losses do not have to be divided equally among the members, its operating agreement governs the conduct of the business and its members, and the tax liability of the partners depends on their level of involvement in the business.
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- C-Corporations
A C-Corporation, commonly known as a C-Corp, is a more formal business entity with defined tax and management regulations that shareholders must follow when establishing and operating the corporation. The distinguishing feature of this business structure, as opposed to partnerships and limited liability companies, is that the corporation is taxed separately from the shareholders, resulting in double taxation of the corporation’s profits at both the corporate and individual levels.
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Tax Considerations
C-Corp are required to file Form 1120 to report profits and losses, tax credits, and income. Since 2018, a flat rate of 21% is applied to U.S. Corporation Income Tax Returns, the tax return is due on the 15th day of the 4th month following the end of the tax year.
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Legal Liability
Business owners organized as C-Corp are not jointly and severally liable for the company’s debts, which means that their personal property will not be used to indemnify the company.
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- S corporations
A S corporation, also known as a S-Corp, is a business entity recognized by the tax code and essentially a type of corporation. However, there are certain prerequisites that must be met to qualify as a S-Corp, such as having no more than 100 shareholders, and all shareholders being at least U.S. tax residents, green card holders, or U.S. citizens.
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Tax Considerations
The IRS Form 2553 is utilized to submit to the Internal Revenue Service, requesting that a business entity be classified as an S corporation for tax-related matters. For a newly established corporation, the filing deadline is 2.5 months after the beginning of the tax year.
In contrast to the widely used C-Corp, the S-Corp is allowed to transfer its taxable income, credits and losses directly to its shareholders. So, there is no double taxation requirement for this structure.
The biggest advantage of S-Corps over Partnerships and LLCs is that shareholders are exempt from self-employment taxes, however, the S-Corporation is responsible for paying Federal Insurance Contributions Act (FICA) taxes on compensation received by shareholder-employees.
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Legal Liability
Similar with a C-Corp, business owners and shareholders organized as an S-Corp are not personally liable for the debts and obligations of the corporation. If the corporation is sued and forced to declare bankruptcy, the owners will not be required to pay the corporation’s debts out of their personal property.
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Reference:
https://www.irs.gov/pub/irs-pdf/f1040sc.pdf
https://www.irs.gov/pub/irs-pdf/f1040s1.pdf
https://www.irs.gov/pub/irs-pdf/f1040sse.pdf
Single Member Limited Liability Companies | Internal Revenue Service (irs.gov)
About Form 1120, U.S. Corporation Income Tax Return | Internal Revenue Service (irs.gov)
See also：
U.S. Company Registration Procedures and Fees |
