Choosing an entity for your business can be overwhelming. Clients often seek our advice, confused by the choices and the process. From partnerships, sole proprietorships and corporations, to limited liability companies (LLC), each entity offers advantages and disadvantages depending on your unique business model.
Choosing an entity should be informed by the current business strategy, in conjunction with the vision for the company for the future. Among other things, the choice of entity can affect tax structure, capital raising, initial public offerings, mergers and acquisitions and distribution structure.
While the biggest risk in forming an entity without strategic thought and input stems from potentially picking the wrong structure, tactical mistakes are often made in the formation process. What many clients don’t realize is there are actually two separate filings to consider: first with the state and second with the IRS.
Filing with the state
State filings are nuanced and often dependent on options available in a specific state. Entities owned by a professional requiring licensing (by the state or other jurisdiction) may have more limited options. For instance, in California a medical practice must be filed as a corporation, and may be required to file additional documents with the State’s medical board. Otherwise professional entity choices can range as follows: a Professional Corporation (PC), a Professional Medical Corporation (PMC), a Service Corporation (SC), a Professional Association (PA), a Professional Limited Liability Company (PLLC), a Limited Liability Partnership (LLP), or an unincorporated Sole Proprietorship.
Overall, the most common entity formed is an LLC (and its professional counterpart, the PLLC). An LLC is flexible and can be customized to different business models, while also leaving open a menu of tax options. In circling back to the strategy and vision considerations, the LLC’s flexibility tends to be a great starting point when the vision for the business is uncertain.
The corporation as an entity choice has its place in more complicated businesses that raise outside funding from private equity or have a plan to become a publicly traded company.
Do: Think two steps ahead and be aware that state filing dictates tax return.
Don’t: Overlook IRS options before choosing a state entity.
Filing with the IRS
What we stress to clients is that an entity choice at the state level dictates your choices with the IRS, and thus how you will be taxed. For example, filing as a Corporation limits your choices with the IRS to either a C-Corp or an S-Corp. If you form a Partnership (Limited, General, or Limited Liability), your choices with the IRS will be limited to a Partnership. The popularity of the LLC for tax election with the IRS again rests with its flexibility. An LLC can choose to be taxed as a corporation (C-Corp or S-Corp), a partnership (as long as there is more than one owner), or a disregarded entity (if there is one owner).
Do: Remember choosing a corporate entity is a two-step decision.
Don’t: Forget to review details with a professional who can explain your options.
There are many pitfalls to avoid and variables to consider in choosing the right corporate entity for your business. In our practice, we advocate simplification.
Much like reducing a fraction to its lowest common denominator, we aim to provide simple solutions on complicated topics. If you would like to know more about choosing the right business entity to suit your needs, please contact us at: [email protected]
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About the author
Michael Byrd, JD
Mr. Byrd is a partner at the law firm of ByrdAdatto, a national business and healthcare law firm with offices in Dallas and Chicago. Mr. Byrd and his firm represent medical spas and medical practices in the spectrum of issues that arise on the business side of medicine. He helps specifically with setting up medical practices, medical spas, MSOs, other ancillary entities, structuring partnership transitions, employment agreements, other contracts and federal and state regulatory compliance. Mr. Byrd lectures throughout the country for medical conferences and routinely speaks at academic institutions, including UT Southwestern School of Medicine and Baylor School of Medicine.