24 Jun 5 Common Mistakes in Forming an Entity
Many small business owners think forming an entity is just for the big guys, but there is a number of reasons why small business owners and entrepreneurs should think about forming a corporation or limited liability company, and it has everything to do with personal liability protection.
Sole Proprietorships: the easiest and least expensive business formation
While the number of sole proprietorships and partnerships outnumbers corporations and LLCs, most of those entities were established by default–owners took the easiest and least expensive path to creating their business structure. But there is a downside to sole proprietorships and partnerships — there is no separation between the business and the business owner(s), leaving them vulnerable to liability issues.
Here are common mistakes business owners make when choosing a business entity
1. Thinking the corporate veil provides unlimited liability protection
While a corporation or LLC affords liability protection, it doesn’t extend that protection to criminal acts, fraudulent practices or using the entity to further your own personal interests, such as raiding business coffers for personal expenses. There are also various tax and wage liabilities that still attach to the owner and potentially anyone on the business checking account.
2. Incorporating without regard to local business licenses
Just because you incorporate doesn’t mean you don’t have to follow the guidelines of your local government when it comes to licenses and permits. It’s not uncommon for business owners to find themselves out of compliance with local ordinances and have to pay significant fines, back taxes and penalties.
3. Incorporating and then not filing required paperwork or taxes
There’s a certain amount of maintenance and follow-up that is required to keep an entity in compliance. This may be a matter of filing changes in ownership, statements of information or any local tax liabilities. Failure to file paperwork or taxes can result in significant late fees, fines or suspension and the inability to sue or defend a lawsuit.
4. Incorporating without sufficient capital
A lack of capital can be detrimental to an entity’s keeping its corporate veil. If the business is sued and it doesn’t have enough revenues, assets, capital or insurance to cover its liabilities, its owners can potentially be aggressively pursued and held personally liable.
Incorporation is generally the best form of business for the small-business owner, including startups. The advantages in terms of personal asset protection, credibility, taxes and ability to finance operations far outweigh the disadvantages, but there are restrictions and requirements.
5. Incorporating without getting the advice of a trusted CPA
Forming an entity without getting input from your CPA can cost you money in the long run. It’s important to choose your business structure carefully, getting the most personal liability protection with the best tax advantages for your business. There are also certain businesses that cannot use certain entities; others have regulations that apply only to certain entity types and not others.
California Document Preparers assists our clients in creating new business structuresthat may provide more liability protection. Contact us at one of our three Bay Area offices to schedule an appointment to create your new business structure. We’re helpful, compassionate and affordable.