5 Misconceptions About Electing Your Corporate Entity

5 Misconceptions About Electing Your Corporate Entity

5 Misconceptions About Electing Your Corporate Entity

The legal structure of your business probably seems like one of those boring details that you won’t need to spend much time on. This couldn’t be further from the truth. Here are the top five all-too-common misconceptions about how your corporate entity will impact you in the future.

1. Thinking That A Corporate Entity is Unnecessary

It’s easy to think that the worst could never happen to you, that your business would never get sued or that your partners would never do anything to jeopardize your shared interests. However, safeguarding against potential disasters is crucial for even the most optimistic entrepreneur.

When you don’t select a specific corporate entity, then it is automatically classified as either a sole proprietorship or general partnership, depending on the number of owners. This classification has no separation between the assets of the business and that of its owners. In other words, your personal finances are up for grabs in cases of debt or litigation.

Forming a corporation, an LLC, or an LLP helps to protect you, though. This is because these entities all legally separate a business from its owners. You can still lose anything that you’ve invested in the company, but you won’t have to worry about them coming for that brand-new car of yours any longer.

2. Not Understanding the Different Methods of Taxation

Not understanding how different corporate entities are taxed can cause trouble. You’ll want to go over the specifics with a local business lawyer, but here’s a quick rundown:

  • Sole proprietorships and general partnerships are considered “disregarded entities” for tax purposes. The business’s income and expenses are reported on the owner’s personal tax returns. They then pay tax on any profit.
  • Corporations get to decide between two different tax structures. C Corporations pay corporate income taxes on their profits. If it pays dividends to its owners/shareholders, those dividends are then reported and taxed through the shareholder’s personal tax returns.
  • The other option available to corporations is known as an S Corporation. This entity helps avoid double taxation. Unlike C Corporations, S Corporations don’t have to pay corporate income tax. Instead, its profits are “passed through” to the shareholders’ personal tax returns where they are subject to the personal income tax. Learn more here.
  • The Limited Liability Company (LLC) is a relatively new type of entity that has become especially popular with small business owners in Florida due to their great versatility. By default, they are taxed just like sole proprietorships or general partnerships. However, they can be taxed as either a C Corporation or an S Corporation. Corporate tax status can help minimize the self-employment taxes paid by LLC owners. It can also help with deducting certain expenses.

3. Assuming That Your Corporate Entity Provides Unlimited Protection

Maybe you already knew about the liability protection offered by formal corporate entities. It might even be the main reason that you elected to be one in the first place. But don’t think for a second that this protection is absolute. You are still liable for negligence or wrongdoing. It won’t act as insurance in cases of natural disaster, either. So, when Florida’s hurricane season comes around, make sure you’ve found a provider for flood insurance!

4. No, Incorporating in Delaware Isn’t Always Best

You may be aware that some of the larger corporations make it a point to incorporate in a specific state (such as in Delaware or Nevada) in order to take advantage of their different laws. However, that doesn’t make it a good fit for your small business. In fact, it could end up costing you more than if you had just stayed in Florida in the first place! After all, out of state corporations still must pay taxes for all of the states where they conduct business.

5. Believing That You Don’t Need an Agreement with Your Partners

It can be hard to be objective when it comes to your business partners, especially if you’ve come to know them on a personal level. It doesn’t make you naïve to see the best in people, but you’ll only have yourself to blame if you don’t plan for the worst. Maybe what was once a shared dream has split into two different visions or maybe your partner was a snake in the grass in the start – either way, conflict can arise from the most inconspicuous of relationships.

Don’t rely on good faith and verbal agreements. Instead, set up a business legal structure from the start that includes a partnership agreement with processes for resolving disagreements, dealing with a departed owner, how to take on new owners, and how to divide profits and losses. The type of agreement depends on the corporate entity. It might seem like a hassle now, but this agreement is a worthwhile investment that will save both time and money.

Looking to start a business or grow your current business? Contact FL Patel Law today by visiting our website or calling (727) 279-5037.

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FL Patel Law PLLC is a boutique business law firm dedicated to entrepreneurs and companies.

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