The Legalities of Starting a Business

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As part of my series on starting a business, this post will cover some of basic legal considerations you’ll want on your radar when you start a business.

Forms of Ownership

Likely at the same time you are exploring names for your business, you may be thinking about the structure your business will take. This is an extremely important decision, and it’s wise to consult with an accountant and attorney so they can help you select the best form of ownership for your business. Here is a summary of the options you have (as presented by the U.S. Small Business Administration, visit the site for a breakdown of advantages and disadvantages of each option).

  • Sole Proprietorship: Most small businesses start out as sole proprietorships. Sole proprietors own all the assets of the business and the profits generated by it. They also assume complete responsibility for any of its liabilities or debts. In a sole proprietorship, you are one in the same with the business.
  • Partnership: A partnership requires two or more people who share ownership of a business. Like proprietorships, the law does not distinguish between the business and owners. The partners should have a legal agreement that outlines how decisions will be made, profits will be shared, disputes will be resolved, how future partners will be admitted to the partnership, how partners can be bought out, and what steps will be taken to dissolve the partnership when needed.
  • Corporation: A corporation chartered by the state in which it is headquartered is considered by law to be a unique entity, separate and apart from those who own it. A corporation can be taxed, it can be sued, and it can enter into contractual agreements. The owners of a corporation are its shareholders who elect a board of directors to oversee the major policies and decisions. Corporations can also elect to be an “S Corp,” which enables the shareholder to treat the earnings and profits as distributions and have them pass through directly to their personal tax return.
  • Limited Liability Company: An LLC is a mix of structures, combining the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership. LLCs must not have more than two of the four characteristics that define corporations: limited liability to the extent of assets, continuity of life, centralization of management, and free transferability of ownership interests.

Your business structure will determine how your business is organized, how you are taxed and how the business is managed. While your business structure can be changed in the future, it’s best to consider all of the options before choosing one.

Licenses and Permits

In most cases, you will need a license issued by your city and/or county when you start your business. Some towns also require a special zoning permit if you will be conducting business out of your home. A call your town clerk can help you determine what the requirements are and what the fee for registering will be.

As with determining your business structure, you may benefit from consulting an attorney as you navigate the list of required licenses and registrations.

Taxes

Your form of business will determine how you file your income tax returns, and you may be required to file estimated tax returns and pay estimated taxes quarterly. This is where the assistance of an accountant is invaluable.  Here are the four general types of business taxes:

  • Income Tax: All businesses except partnerships must file an annual income tax return (partnerships file an information return).  The form you use depends on how your business is organized. The federal income tax is a pay-as-you-go tax. You must pay the tax as you earn or receive income during the year.
  • Self-Employment Tax: Self-employment tax is a social security and Medicare tax primarily for individuals who work for themselves.  Your payments tax contribute to your coverage under the social security system.
  • Employment Tax: If you have employees, you as the employer have certain employment tax responsibilities that you must pay and forms you must file, including: social security and Medicare taxes, federal income tax withholding, and federal unemployment tax.
  • Excise Tax: Although it doesn’t apply to many small businesses, you may have to pay an excise tax if you operate a certain type of business or sell certain products. Specific excise taxes include environmental taxes, communications and air transportation taxes, and fuel taxes.

Lastly, as covered in a previous post, don’t forget that the name of your business has legal implications as well.

Since my experience in business is U.S.-based, this legal overview applies to U.S. businesses. If you have resources for the legalities of starting a business in another country, please add them to the comments.

This post is a guide of some legal considerations related to starting a business and should not replace advice from an attorney, accountant or other professional.

Additional resources:

Image credit: djshaw

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  • Daniel Woods

    Don’t forget to file your fictitious name with the state you are starting your business in. When I first started Social Box Media I forgot to do this and had to file and wait so I could open a bank account and cash the checks my clients were sending me. It only takes about 6-8 business days to get this done. http://www.socialboxmedia.com